Scenario 17.5
Consider the following information:
Income to the firm from workers who sell door-to-door
Bad Luck Good Luck
Low Effort (e = 0) $5,000 $7,000
High Effort (e = 1) $7,000 $13,000
Cost of effort: c = $2500e
Probabilities: Bad luck = .75; Good luck = .25
-A principal-agent problem arises in the situation in Scenario 17.5 because:
A) the principal can measure effort and output; the agent can measure only output.
B) the principal can measure only effort, and the agent can measure only output.
C) the principal can measure only output, and the agent can measure effort and output.
D) neither the principal nor the agent can measure effort.
E) neither the principal nor the agent can measure output.

Question

Quizplus · Accepted Answer

The principal-agent problem arises because the principal (the firm) can only measure the output (income to the firm), while the agent (the worker) knows both the effort they put in and the resulting output. This discrepancy in information can lead to issues such as moral hazard, where the agent may not work as hard knowing that their effort level cannot be directly observed by the principal.

Scenario 17.5 Consider the Following Information