Editing Principal–agent problem (section)

==Overview==
The principal's interests are expected to be pursued by the agent; however, when the interests of the agent and principal differ, a dilemma arises. The agent possesses resources such as time, information, and expertise that the principal lacks. At the same time, the principal does not have control over the agent's ability to act in the agent's own best interests. In this situation, the theory posits that the agent's activities are diverted from following the principal's interests and drive the agent to maximize the agent's interests instead.<ref>{{cite book |last1=Potucek |first1=M |title=Public Policy: A Comprehensive Introduction |date=2017 |publisher=Karolinum Press |location=Prague, Charles University }}</ref>

The principal and agent theory emerged in the 1970s from the combined disciplines of economics and [[institutional theory]]. There is some contention as to who originated the theory, with theorists Stephen Ross and Barry Mitnick both claiming authorship.<ref>{{cite web|last = Mitnick|first = Barry M.|date = January 2006|title = Origin of the Theory of Agency|url = http://www.pitt.edu/~mitnick/agencytheory/agencytheoryoriginrev11806r.htm|access-date = April 20, 2015|archive-date = March 7, 2021|archive-url = https://web.archive.org/web/20210307193145/http://www.pitt.edu/~mitnick/agencytheory/agencytheoryoriginrev11806r.htm|url-status = live}}</ref> Ross is said to have originally described the dilemma in terms of a person choosing a flavor of ice-cream for someone whose tastes they do not know (''Ibid''). The most cited reference to the theory, however, comes from [[Michael C. Jensen]] and William Meckling.<ref>{{cite journal|last1 = Jensen|first1 = Michael C.|first2 = William H.|last2 = Meckling|date = October 1976|title = Theory of the firm: Managerial behavior, agency costs and ownership structure|journal = Journal of Financial Economics|volume = 3|issue = 4|pages = 305–360|url = https://www.sfu.ca/~wainwrig/Econ400/jensen-meckling.pdf|doi = 10.1016/0304-405X(76)90026-X|access-date = September 8, 2017|archive-date = March 20, 2021|archive-url = https://web.archive.org/web/20210320104759/http://www.sfu.ca/~wainwrig/Econ400/jensen-meckling.pdf|url-status = live}}</ref> The theory has come to extend well beyond economics or institutional studies to all contexts of [[information asymmetry]], [[uncertainty]] and [[risk]].

In the context of law, principals do not know enough about whether (or to what extent) a contract has been satisfied, and they end up with [[agency cost]]s. The solution to this information problem—closely related to the [[moral hazard]] problem—is to ensure the provision of appropriate [[incentive]]s so agents act in the way principals wish.{{cn|date=April 2024}}

In terms of [[game theory]], it involves changing the rules of the game so that the self-interested rational choices of the agent coincide with what the principal desires. Even in the limited arena of employment contracts, the difficulty of doing this in practice is reflected in a multitude of compensation mechanisms and supervisory schemes, as well as in critique of such mechanisms as e.g., [[W. Edwards Deming|Deming]] (1986) expresses in his [[W. Edwards Deming#Seven Deadly Diseases|Seven Deadly Diseases]] of management.