The Theory of Honest Signaling - Spence's theory of educaton

The Theory of Honest Signalling

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Introduction

Introduction: Part 1

Introduction: Part 2

The Basic Problem

The Basic Solution

Honest signalling in biology

Zahavi's handicap principle

Honest signalling in economics

Conspicuous consumption

Education

The mathematics of honest signalling

Other resources

Contact Information

cbergst@u.washington.edu

Department of Zoology
University of Washington
Box 351800
Seattle, WA 98195-1800

Honest signals in economics:
Spence's theory of education

In the early 1970's, economist Michael Spence examined the role of signalling in labor markets. He considered the problem faced by employers: employees vary in quality, but the employer has no easy way to ascertain quality prior to hiring. Because of their higher productivity, meanwhile, high quality employees could command higher wages, should they be able to convincingly signal their quality to prospective employers.

While one could imagine that over time, workers would develop individual reputations for skill or the lack thereof, Spence focuses on the "one-shot" game, in which no reputation information is available nor is there any incentive to worry about future reputation. Instead, employers rely on indices (unalterable characteristics such as age or sex) and signals (alterable characteristics, particularly education level) to decide what wages to offer each worker.

Under these circumstances, Spence argues that a signal can be used to distinguish workers only if "the costs of signalling are negatively correlated with [worker skill]" (p.358). He constructs a simple model in which there are two types of worker: high productivity and low productivity. The former can acquire education at a lower cost (in terms of time, money, annoyance, etc) than the latter. Spence shows that in this model, there will be a signalling equilibrium in which high productivity workers will seek more education than low quality workers, and employers will offer higher wages to those with higher levels of education. In Spence's model, education - rather than increasing worker productivity - merely serves as a reliable signal of it.

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