Signaling theory: past, present, and future.

Author:Karasek, Ray, III


Signaling is all around us in our everyday lives. People signal by the way they carry themselves, speak, and interact. Organizations signal as well in their advertisements, recruiting, and annual reports, just to name a few. In this article we consider the influence of Spence's (1973) seminal article on signaling theory. We trace signaling theory's impact on management, psychology, and anthropology. We propose a model of the relationship among information, signaling, and perceptions. Finally, we suggest areas of further research in signaling theory based on where it has been, where it is today, and our proposed model.


Spence (1973) provides a hypothetical example of how signaling affects job choice in the market. He starts with an introduction that ironically signals to the reader a level of uncertainty about Spence's own abilities. His abilities, however, are shortly proven and the investment in the article quickly shows purpose.

Spence (1973) describes the hiring process as an investment and likens it to playing the Lottery. He goes on to say that the wage is the marginal contribution that an employer will pay for representation in this Lottery. But just as the final number is picked in a Lottery you do not know until that happens if you made the correct investment or not. These unknowns are better explained by observable personal attributes described as Signals. But as Spence (1973) states not all attributes are fixed (Indices), some are alterable (Signals). Indices are defined as unalterable pieces of data that include sex, gender, race, and other unalterable attributes. Signals and indices are regarded as parameters in shifting conditional probability distributions that define an employer's beliefs (Spence, 1973).

In this lottery of hiring the employer's risk is neutral, and each of the signals/indices are neutral as described by Spence in the article. However, these signals to the individuals are manipulatable but costly. Spence (1973) says that a signal can not distinguish one applicant from another unless the costs of signaling are correlate negatively with productive ability. For example a college degree is becoming a non-distinguishable signal in which everyone is investing which ironically, in effect, makes it indistinguishable amongst job candidates.

However, equilibrium is reached when the signals portrayed by an applicant are received by an employer. An equilibrium can be thought of as a set of employer beliefs that generate offered wage schedules, applicant signaling decisions, hiring, and ultimately new market data over time that are consistent with the initial beliefs (Spence, 1973). This may not happen for many hiring and interviewing rounds, but could be likened to the hiring of junior accountants every spring from college, with special attention paid to their education. Each year, hiring through interviewing takes place, and equilibrium begins to crystallize based upon this year's new hires versus last year's results. These signals need to be negatively correlated but, as Spence stated, effective signaling depends not only upon the negative correlation of costs and productivities, but also upon there being a "sufficient" number of signals within the appropriate cost range (Spence, 1973). But, as mentioned before regarding the cost of college, if the "Signal" is too productive relative to the costs, everyone will invest heavily in the signal, and it may cease to have a signaling function (Spence, 1973). Signals, though, are not the only indicator; there are also Indices referred to previously.

Indices are unalterable pieces of data that include sex, gender, race, and other unalterable signals. Spence (1973) uses the index of sex to indicate any of these indices. He goes on to explain that as another signal is entered into the mix other than a standalone signal the equilibrium measure is now duplicated. For example, instead of having education as one signal among a like group, you now have education bifurcating to a male and female, a two-tailed group. This will, over time, cause a ranking to take place that could be seen as unfair and prejudiced to that singled out or signaled group. Spence (1973 indicated that the mechanism that generates the equilibrium is a like feedback loop. Spence refers to the situation of the disadvantaged group as a lower level equilibrium trap, which conveys the notion of a situation that persists for reasons inherent to the model. The multiple equilibria of the education model translate into arbitrary differences in the equilibrium configuration and status of two groups, as defined as observable, unalterable characteristics.

Spence (1973) makes some exciting points regarding signals and their relation to wages from an employer. The fact that Spence refers to the disadvantaged group as endogenous to the model is troubling in today's society. Future research could focus on the feedback loop and its effect on governmental programs such as intercity education programs to help free misfortunate people from their feedback loop. In the remainder of...

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