What are agency costs?

The costs arising when an agent (e.g., a manager) acts on behalf of a principal (e.g., shareholders) with divergent interests and incomplete monitoring.

How does this relate to the business and management discipline?

This is the economics-based analysis of firms (JEL M); the broader business and management discipline also covers strategy, marketing, and operations as professional fields.

Business Administration and Business Economics; Marketing; Accounting; Personnel Economics

This field covers business economics, the economics of the firm, and accounting — how firms are organized and governed, and how their activities are measured and reported.

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Scope

JEL category M spans business administration and economics, marketing, accounting, and personnel economics, analysing firm organization, governance, incentives, and financial reporting.

Sub-topics

Core questions

Why do firms exist and what determines their boundaries?
How do owners, managers, and workers' incentives align or conflict?
How should firms be governed?
How is firm performance measured and reported?
How do firms organize production and personnel?

Key concepts

Transaction costs
The firm as a nexus of contracts
Agency costs
Corporate governance
Management by objectives
Financial reporting
Personnel economics

Key theories

Theory of the firm: Coase explained the firm as a response to the transaction costs of using the market, defining its boundaries by the make-or-buy margin.
Agency theory: Jensen and Meckling analysed the firm as a nexus of contracts beset by agency costs between owners and managers, founding modern corporate governance and accounting research.
Management as practice: Drucker established management as a discipline, with management by objectives and a focus on the customer and on results.

History

The economic analysis of business runs from Coase's theory of the firm (1937) through Williamson's transaction-cost economics to Jensen and Meckling's agency theory (1976), which transformed finance, governance, and accounting research. Drucker's work founded modern management practice, complementing the economics of organization.

Debates

In whose interest should firms be run?: Shareholder-value views (rooted in agency theory) contend with stakeholder conceptions of the corporation.
What determines firm boundaries?: Transaction-cost and property-rights theories debate the make-or-buy decision and vertical integration.

Key figures

Ronald Coase
Michael Jensen
William Meckling
Peter Drucker

Seminal works

coase-1937
jensen-meckling-1976
drucker-1954

Frequently asked questions

What are agency costs?: The costs arising when an agent (e.g., a manager) acts on behalf of a principal (e.g., shareholders) with divergent interests and incomplete monitoring.
How does this relate to the business and management discipline?: This is the economics-based analysis of firms (JEL M); the broader business and management discipline also covers strategy, marketing, and operations as professional fields.