Monday, April 25, 2011

Michael Spence. 1973. Job Market Signaling

Michael Spence. 1973. "Job Market Signaling," The Quarterly Journal of Economics Vol. 87 #3 (August): 355-374.

  1. Indices - observable, unalterable attributes, such as race. Changes to such attributes are do not occur at the discretion of the individual.
  2. Signals - observable characteristics attached to an individual that are subject to manipulation, such as education.
  3. Signaling costs - the cost of manipulating a signal.

I. Hiring as Investment Uncertainty
  • Hiring is an investment decision because it takes time to learn an individual's productive capabilities after they are hired.
  • Hiring is a decision made under uncertainty because an individual's productive capabilities are not known beforehand.
II. Applicant Signaling
  • Potential employees confront an offered wage schedule that are a function of signals and indices.
  • Critical assumption: signaling will not effectively distinguish one applicant from another unless the signaling costs are negatively correlated with productive capability.
    • If this condition does not hold, everyone will invest in the signal in exactly the same way and become undifferentiable.
    • An alterable characteristic becomes an actual signal if the signaling costs aer negatively correlated with the individual's unknown productivity; this is a necessary but not sufficient condition.
III. Information Feedback and the Definition of Equilibrium
  • New market information comes in to the employer through hiring and subsequent observation of productive capabilities as they relate to signals.
  • An equilibrium occurs when the set of employer beliefs about signals and indices prior to hiring generate offered wage schedules, applicant signaling decisions, hiring, and new market data over time that are consistent with those intial beliefs; beliefs before and after hiring and observing are equivalent.
IV. The Informational Impact of Indices
  • By themselves, indices could never tell the employer anything about productivity.
    • Any informational impact of indices must be through their interaction with the educational signaling mechanism.
  • There are externalities implicit in the fact that an individual is treated as the average member of the group of people who look the same and that, as a result, and in spite of an apparent sameness the opportunity sets facing two or more groups that are visibly distinguishable may in fact be different.
  • The source of signaling and wage differentials is in the informational structure of the market itself. Differential signaling costs over groups are an important possibility. 
V. Conclusion
  • The framework in this paper examines a basic equilibrium signaling model and one possible type of interaction of signals and indices. This framework can be used to examine phenomena ranging from selective admissions procedures, promotion, and loans and consumer credit.

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