Signaling in Wikipedia:
In contract theory, signaling is the idea that one party (termed the agent) credibly conveys some information about itself to another party (the principal). Signalling took root in the idea of asymmetric information, which says that in some economic transactions, inequalities in access to information upset the normal market for the exchange of goods and services.
In his seminal 1973 article, Michael Spence proposed that two parties could get around the problem of asymmetric information by having one party send a signal that would reveal some piece of relevant information to the other party. That party would then interpret the signal and adjust her purchasing behaviour accordingly—usually by offering a higher price than if she had not received the signal.
For example, in Michael Spence’s job-market signalling model, (potential) employees send a signal about their ability level to the employer by acquiring education credentials. The informational value of the credential comes from the fact that the employer believes the credential is positively correlated with having greater ability and difficult for low ability employees to obtain. Thus the credential enables the employer to reliably distinguish low ability workers from high ability workers.
There are, of course, many problems that these parties would immediately run into.
- How much time, energy, or money should the sender (agent) spend on sending the signal?
- How can the receiver (the principal, who is usually the buyer in the transaction) trust the signal to be an honest declaration of information?
- Assuming there is a signalling equilibrium under which the sender signals honestly and the receiver trusts that information, under what circumstances will that equilibrium break down?
Lecture notes on Signalling:
Information Economics: tools developed in game theory to analyse the effect of informational asymmetries in the models of: 1) adverse selection; 2) signaling; 3) screening
The debate on college and signaling:
(to be continue)