Principal-Agent Problems from a Game-theoretic Viewpoint

Abstract: This paper discusses the game-theoretic foundations of the famous Principal-Agent model. Taking the game-theoretic viewpoint allows to bring the different versions of this model into a unified perspective. Since the Principal-Agent model deals with situations, where some players have information that others have not, some form of communication is necessary for the exchange of information. A central message of the model is that for the exchange of information players have to be provided with the right incentives. It is shown how the concept of correlated equilibrium can be used to add formally the idea of communication to a game in an analytically tractable way. The power of this approach lies in the fact that it allows to simplify the structure of a possibly very complicated game with communication to a problem that is much easier to handle. This result known to the literature as the Revelation Principle is discussed. An extensive example at the end of the paper shows possible limitations of relying on arguments in the spirit of the Revelation Principle.