Question

Agency theory presents some important managerial considerations. Broadly speaking, governance mechanisms need to assure alignment of incentives between principals and agents. The text provides an example of financial institutions in the situation of profits remaining within the firm while losses are paid by the public as a description of:________.A) a board of directors' problem.B) a challenge of information symmetry.C) a moral hazard problem.D) a private information problem.E) an adverse selection problem.

Answer 1

Answer: a moral hazard problem

Step-by-step explanation:

Agency theory is a principle used to explain and resolve the issues in the relationship that exists between business principals and their agents. The relationship is usually the one between the shareholders who act as the principals, and the company executives who act as the agents.

When banks are bailed out through public funds for the excessive risky mortgage obligations or undue risk taking, this lead to increase in moral hazard. The gains of successful risk taking will stay with the private firm and the risks would be shared with the other parties.