An ecology of agency arrangements: mortality of savings and loan associations, 1960-1987

Administrative Science Quarterly, Sept, 1992 by Hayagreeva Rao, Eric H. Nielsen

Agency costs are especially significant in collectivized agency relationships, which are characterized by the separation of ownership from control. This is especially so in joint stock corporations, savings and loan associations, mutual banks, mutual funds, and nonprofit organizations. Since managers as agents have specialized skills and knowledge, they initiate and implement proposals and are compensated for their performance. Principals or owners bear residual risks and enjoy access to the residual left after all payments to agents. They control decisions by ratifying initiatives and monitoring their implementation by managers. However, when many principals exist, residual claims become diffuse, and it is costly for all claimants to be involved in decision control; hence, intermediaries, such as boards of directors, exist to facilitate decision control. As a result, control over decisions is further separated from the people whose resources are at risk, and problems between principals and agents proliferate.

Because agents tend to have more information than principals, they have opportunities to misuse, embezzle, and divert the latter's resources. Principals defuse these hazards by limiting participation in agency relations, internalizing expertise, eliminating agents, spreading their risks, and writing contracts. Moreover, principals seek to control agents by constructing monitoring arrangements and incentive mechanisms to elicit fidelity and cooperation (Fama and Jensen, 1983a, 1983b; Jensen, 1983; Shapiro, 1987: 629-633). More importantly, the characteristics of ownership rights determine whether principals are able to monitor and motivate managers, mitigate conflicts of interest between managers and other stakeholders, and reduce agency costs (Fama and Jensen, 1983c).

When there is a separation of ownership and control, the survival of organizations is determined by the ability of monitoring arrangements and incentive mechanisms to discipline managers and to reduce conflicts of interest between managers and other constituencies. The more efficient the structure of monitoring and incentives, the lower the agency costs of an organization, the greater its comparative advantage over other organizations and the higher its survival prospects when subjected to competition. Conversely, the higher the agency costs of an organizational form, the lower its survival prospects.

When extended to collectivized agencies, the agency perspective predicts that the more efficient the monitoring and incentive systems in a collectivized agency, the lower its agency costs and the higher its survival prospects when exposed to competition. Thus, agency arrangements are selected on the basis of their efficiency, and selection regulates diversity in agency arrangements in a given organizational field (Fama and Jensen, 1983c).

The Survival of Collectivized Agencies

Ecological theory uses the concept of a niche to detail how competition shapes the survival of organizations and regulates organizational diversity (Hannan and Freeman, 1977, 1989; Hannan and Carroll, 1992). In the ecological framework, the fundamental niche of a collectivized agency relationship can be said to consist of the social, economic, and political conditions necessary to sustain the agency arrangement in question. If two forms of collectivized agencies rely on similar resources and institutions for support, then their fundamental niches intersect, and the scope for potential competition is directly proportional to the overlap of their fundamental niches. In turn, niche overlap shrinks the resource space and lowers the carrying capacity available to a given population of collectivized agencies.