Browse Definitions :
Definition

contract theory

Contributor(s): Ivy Wigmore

Contract theory is the study of how people and organizations develop legal agreements in situations with uncertain conditions, unknown factors and information asymmetry. Contract theory applies to both multi-party negotiations between a principal and one or more agents and contracts created by a single individual or organization to specify details of multi-party agreements, such as employee contracts.

Ideally, a contract specifies the responsibilities and requirements of both parties so meticulously that there can be no room for dispute or misunderstanding. However, that ideal may never be achieved, for various reasons. Moral hazard, one model within contract theory, is the risk that one party to a transaction is not acting in good faith.  For example, that party may have withheld important  information or provided misleading information or may have undisclosed motivation driving elements of an agreement that are being negotiated. Moral hazard often involves the assumption of risks that disadvantage the party with less information. Other models within contract theory include adverse selection, in which the principal party is not fully informed of the agent’s risk factors, and signaling, in which the agent reliably conveys information about itself to the principal, for example, a job applicant listing qualifications that match the hirer’s list of requirements.

Contract theory is a special application of game theory, which is the study of mathematical models of negotiation, conflict and cooperation between individuals, organizations and governments. Central questions of game/contract theory include why an individual makes a particular decision and how the decisions made by one individual affect others.

See a lecture on contract theory:

This was last updated in June 2016

Continue Reading About contract theory

Start the conversation

Send me notifications when other members comment.

Please create a username to comment.

-ADS BY GOOGLE

File Extensions and File Formats

Powered by:

SearchCompliance

  • compliance audit

    A compliance audit is a comprehensive review of an organization's adherence to regulatory guidelines.

  • regulatory compliance

    Regulatory compliance is an organization's adherence to laws, regulations, guidelines and specifications relevant to its business...

  • Whistleblower Protection Act

    The Whistleblower Protection Act of 1989 is a law that protects federal government employees in the United States from ...

SearchSecurity

  • Malwarebytes software

    Malwarebytes is a cross-platform anti-malware program that detects and removes malware and other rogue software.

  • Transport Layer Security (TLS)

    Transport Layer Security (TLS) is a protocol that provides authentication, privacy, and data integrity between two communicating ...

  • van Eck phreaking

    Van Eck phreaking is a form of electronic eavesdropping that reverse engineers the electromagnetic fields (EM fields) produced by...

SearchHealthIT

SearchDisasterRecovery

  • cloud insurance

    Cloud insurance is any type of financial or data protection obtained by a cloud service provider. 

  • business continuity software

    Business continuity software is an application or suite designed to make business continuity planning/business continuity ...

  • business continuity policy

    Business continuity policy is the set of standards and guidelines an organization enforces to ensure resilience and proper risk ...

SearchStorage

  • solid-state storage

    Solid-state storage (SSS) is a type of computer storage media made from silicon microchips. SSS stores data electronically ...

  • persistent storage

    Persistent storage is any data storage device that retains data after power to that device is shut off. It is also sometimes ...

  • computational storage

    Computational storage is an information technology (IT) architecture in which data is processed at the storage device level to ...

Close