The case against lawyers' contingent fees and the misapplication of principal- agent models

In this paper the case against the principal-agent modeling of most economic transactions is made about liberalizations of professional services that introduced in many European countries schemes of professionals’ remuneration contingent on outcomes—i.e. ‘‘contingent fees’’ for lawyers. If the relationship between the professional and clients is seen according to the principal-agent model, contingency fees can be economically justified. The case is quite different, however, if the situation is seen as one of authority under bounded rationality and unforeseen/ asymmetrically gathered events. A game theoretical thought experiment aimed at checking the case for or against using agency models is carried out. It shows that (i) in the case of a self-interested professional, notwithstanding that overall utilitarian efficiency may be safeguarded, contingent fees leads to not respecting the fiduciary obligations (to detriment of Pareto optimality, impartial and loyal treatment of all clients, and the obligation to promote all the clients’ welfare). (ii) In the case of the professional’s willingness to comply with deontology standards— requiring impartial protection of all the clients’ rights and welfare, under a condition of minimal individual rationality—contingent fees lead nevertheless to making useless deontological motivations and to a loss of efficiency in utilitarian sense. A Pareto optimal, impartial, as well as efficient, arrangement aimed at maximizing the total volume of damage compensation is then considered. Nevertheless the main result is that, even if motivations to conform to such principles were available, under a contingent fee contract the professional could not carry out them because of the logic of the incentive contract. Thus, notwithstanding its widespread acceptance in the law and economics literature, agency theory seems not suitable in general for designing efficient and fair contracts and economic institutions.