The world is rife with principal-agent problems, and society suffers greatly as a result. What economists describe as principal-agent problems is roughly what the general public calls conflicts of interest, though the problems are broader in scope.
Last week, clients of lobbyist Joe Allbaugh received post-Katrina reconstruction contracts. Allbaugh, a campaign manager for President Bush in 2000, headed the Federal Emergency Management Agency from 2001 until aide Michael Brown replaced him in 2003. Kellogg, Brown & Root, a subsidiary of Halliburton formerly headed by Vice President Cheney, was one of Allbaugh’s clients to get a contract.
This month, the Minnesota Department of Commerce ruled that Gregory Scott acted unethically in seeking a job with Integra Telecommunications while serving as a member of the Public Utilities Commission.
In recent years, Air Force procurement officer Darlene Druyun and Boeing Chief Financial Officer Michael Sears were jailed for engineering a sweetheart contract for refueling tankers.
Let me emphasize that in the case of former FEMA director Allbaugh, I know of no evidence of any illegal act. But close relationships between former agency heads and firms dealing with their agencies always raise questions.
To economists, the question of allocating public resources for very narrow private gain is closely related to an even more common problem: business decisions benefiting a small group of executives rather than the owners of the firm.
Enron, Imclone, and WorldCom remind us how easily executives can hijack large firms to the detriment not only of shareholders, but also the general public.
Controlling conflicts of interest can be easier in government than in private businesses. News media tend to scrutinize public spending more closely than subtle management decisions within corporations.
Moreover, elected officials can further their careers by hunting out malfeasance. Democrat Harry Truman and Republican John McCain dared to criticize rotten deals made by the administrations of presidents from their own parties. Few in the private sector have similar incentives.
Dishonest acts with tax money outrage many citizens because most households pay taxes. Outrage over analogous acts in business is less acute. “I don’t own any WorldCom stock so why should I worry if Bernie Ebbers robs his shareholders,” seems to be a common reaction.
Unfortunately, neither form of corruption just shifts money around in society. It isn’t just about giving tax money to favored contractors or diverting dividends into bonuses. Corruption in private and public sectors causes inefficient use of resources. Overall, fewer goods and services are available to meet the needs of society. The pie itself is smaller — it’s not just less fairly sliced.
Avoiding principal-agent problems is not easy. To paraphrase an old saying, eternal vigilance is the price of economic efficiency.
© 2005 Edward Lotterman
Chanarambie Consulting, Inc.