The Economics Book

281

See also: Behavioral economics 266–69 ■ Market uncertainty 274–75 ■

Sticky wages 303 ■ Searching and matching 304–05

A

new field of economics

was developed in the

1970s, when US economist

George Akerlof published his

insights on how disparities of

access to information might be

overcome (pp.274–75).

US economist Michael Spence

said that, in practice, if Person 1

has more information than Person 2

in a transaction, Person 1 is likely

to send a signal to allow Person 2 to

make a more informed decision.

The example Spence gave was

that of the job interview, where an

employer has less information than

the applicant about his or her

potential productivity. The

applicant provides a resume

detailing educational

achievements, which may have no

relevance to the post applied for but

do signal a willingness for hard

work and application. In Spence’s

view higher education, unlike

vocational training, mostly has a

signaling function, and prospective

“good” employees will invest in

more education to signal their

higher potential productivity.

The opposite of this process, for

example where an employer uses

the interview to elicit information,

is known as screening. Someone

buying a used car, or considering

granting a loan, will use screening

questions to glean information

before deciding. Signaling and

screening are used in all forms of

business transactions. ■

CONTEMPORARY ECONOMICS

EDUCATION IS

ONLY A SIGNAL

OF ABILITY

SIGNALING AND SCREENING

The subject area of a student’s

degree and their knowledge of it are of

secondary importance when applying

for many jobs. Rather, their degree

signals ability and a capacity for work.

IN CONTEXT

FOCUS

Decision making

KEY THINKERS

Michael Spence (1943– )

Joseph Stiglitz (1943– )

BEFORE
1963 Kenneth Arrow
addresses the problems
of information economics,
such as when one party
to a transaction has better
information than another.

1970 George Akerlof describes
markets with information
disparities in The Market
for Lemons.

AFTER
1976 Michael Rothschild
and Joseph Stiglitz pioneer
“screening,” by which an
uninformed party can induce
another to impart information.

2001 Michael Spence, George
Akerlof, and Joseph Stiglitz
win a Nobel Prize for their work
in information economics.