A Moral Solution to the Moral Hazard Problem

Posted: 9 Apr 2009

See all articles by Douglas E. Stevens

Douglas E. Stevens

Georgia State University - Robinson College of Business

Alex Thevaranjan

Syracuse University - School of Management

Multiple version iconThere are 2 versions of this paper

Date Written: April 7, 2009

Abstract

In agency theory, offering a flat salary contract under unobservable effort creates a moral hazard problem because the agent is motivated to shirk and provide less than a previously agreed-upon level of effort. We examine a moral solution to this moral hazard problem. In particular, we present a principal-agent model where the agent possesses some level of moral sensitivity that causes him disutility if he provides less than the agreed-upon level of effort. We examine the interplay between moral sensitivity and firm productivity in determining the optimal salary contract, and contrast our moral solution with the traditional incentive solution that becomes necessary when moral sensitivity is assumed to be zero. This allows us to highlight the benefits of the agent's moral sensitivity to both the principal and the agent, and thereby, point out the potential cost of ignoring this moral sensitivity. We conclude that adding moral sensitivity increases the descriptive, prescriptive, and pedagogical usefulness of the principal-agent model.

Keywords: Agency theory, Moral hazard, Moral sensitivity, Firm productivity, Optimal contracts

JEL Classification: A31, D82, M14

Suggested Citation

Stevens, Douglas E. and Thevaranjan, Alex, A Moral Solution to the Moral Hazard Problem (April 7, 2009). Accounting, Organizations and Society, Forthcoming. Available at SSRN: https://ssrn.com/abstract=1374636

Douglas E. Stevens (Contact Author)

Georgia State University - Robinson College of Business ( email )

P.O. Box 4050
Atlanta, GA 30303-3083
United States
404-413-7212 (Phone)
404-413-7203 (Fax)

HOME PAGE: http://robinson.gsu.edu/profile/douglas-e-stevens/

Alex Thevaranjan

Syracuse University - School of Management ( email )

Department of Accounting
900 S. Crouse Avenue
Syracuse, NY 13244-2130
United States
315-443-3355 (Phone)
315-443-5457 (Fax)

Register to save articles to
your library

Register

Paper statistics

Abstract Views
1,883
PlumX Metrics