A Case for Percentage Commission Contracts: The Impact of a “Race” Among Agents (P.1)

A Case for Percentage Commission Contracts:
The Impact of a “Race” Among Agents


Lynn M. Fisher & Abdullah Yavas


Published online: 29 July 2008
# Springer Science + Business Media, LLC 2008

Abstract In standard principal-agent problems, the issue at hand is how to align the
interests of the agent with those of her principal. A commonly used contract involves
the principal paying the agent a percentage of the sale price as commission. With
respect to real estate brokerage contracts, it has been argued that percentage
commission contracts fail to provide sufficient incentives to the agent. This paper reevaluates
the standard solution to a one seller, one agent agency problem by
introducing more than one agent. It is shown that percentage commission contracts
can induce first-best effort levels from agents. The result is due to the negative
externalities created by the winner-takes-all race among agents. The optimal
commission rates in this model are inconsistent, however, with the observed
uniformity in commission rates across markets in the USA.
Keywords Brokerage . Percentage commission contracts


Introduction

It is recognized that residential real estate brokerage contracts are highly
standardized. A well-studied aspect of these contracts is the fact that the brokerage
commission specified therein is normally a percentage commission based on the
final sale price of the property. Standard principal-agent theory with one agent and
one seller suggests that this commission structure fails to offer adequate incentives to
evoke optimal effort on the part of the agent. The implication being that the

J Real Estate Finance Econ (2010) 40:1–13

DOI 10.1007/s11146-008-9139-x
L. M. Fisher (*)
Department of Urban Studies and Planning, Center for Real Estate, MIT, 77 Massachusetts Ave.,
W31-310, Cambridge, MA 01239, USA
e-mail: lfisher@mit.edu
A. Yavas
Smeal College of Business Administration, Pennsylvania State University, 381 Business Building,
University Park, PA 16802, USA
e-mail: ayavas@psu.edu

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