Trust in Principal-Agent Negotiations: Can Gift-Exchange Minimize Efficiency Loss?

Principal-agency theory assumes that incentives are necessary to motivate the agent (employee) to act in the best interests of the principal (employer). Yet preliminary studies by Andrew Whitford of the University of Kansas revealed a different outcome: principals paid agents for effort without being able to monitor their performance, and the agents supplied. Whitford and his colleagues William Bottom and Gary Miller of Washington University hypothesize that principal-agency theory will not hold true when trust enters the equation. Trust emerges when person A believes that person B will honor A’s best interests, contrary to B’s own, when B has a reciprocity-based obligation to do so. For instance, if A undertakes a costly act that benefits B, B will feel obligated to reciprocate with a costly act that benefits A. Whitford et al. have designed a series of experiments to explore the parameters of reciprocity-based trust by varying the negotiation conditions between principal and agent. Results from these studies will be published in academic journals.