THE BRITONIAN LIBRARY
Beyong Markets and Hierarchies: Toward a New Synthesis of American Business History
 ... The advantage of hierarchical coordination lies in its potential to eliminate these kinds of problems [e.g. sellers may be tempted to foist goods of substandard quality on buyers who are located far away. Because in a pure market setting there is no expectation of a repeat interaction, buyers are unable to punish such behavior by refusing to deal with the seller a second time. For similar reasons, a buyer cannot punish a supplier who fails to deliver goods in a timely fashion, or even determine reliably whether the supplier has misbehaved or simply experienced unavoidable delays] by internalizing and thus more firmly controlling both the quality of goods and the timing of their delivery. For hierarchies to work well as coordination mechanisms, however, the directives issued by superiors must be obeyed. Subordinates may not want to follow orders that they do not perceive to be in their interests. Or they may have their own ideas about what to do. If the organization is large or if the contributions of individual workers are difficult to distinguish from those of their fellow employees, superiors may have only an imperfect knowledge of what subordinates are doing and may not be able to detect and punish deviations. Subordinates, therefore, may be able to exploit this 'principal-agent' problem to engage in behaviors that are contrary to the wishes of their superiors.