asymmetric info 2

Question 1

What is signalling

Answer 1

Mechanism an agent uses to reveal private information

Question 2

able workers

Answer 2

type 2 proportion b, more productive, receive a higher wage

Question 3

unable workers

Answer 3

type 1, proportion 1-b, less productive, receive a lower wage

Question 4

assumptions

Answer 4

perfectly competitive labour market, workers paid their marginal products (a1 and a2).
two identical firms
x = a1L1 + a2L2
a2 > a1 (Marginal products)
education doesnt affect the ability of workers, purely used as a signalling technique.

Question 5

unobservarable worker ability

Answer 5

wage = expected marginal product = ba2 + (1-b)a1. If everyone is willing to accept this wage, no inefficiency.

Question 6

how do workers signal their ability

Answer 6

acquiring education. c1e1 cost of education to unable. c2e2 cost of education to able. e is level of education

Question 7

case 1: c2 < c1

Answer 7

able workers more efficient in acquiring education.
Able workers get e* level of education. Whilst unable workers get 0 education. Differences in education allow them to be distinguished and paid their marginal products. Firms have no incentive to behave differently here.
Leads to a separating equilibrium, unable workers get 0 education and no incentive to change, able workers get e* education, no incentive to change, firms have no incentive to change thus equilibrium.
Waste of resources since education doesn’t enhance productivity therefore inefficient outcome to society, efficient to workers though who get higher wage (type 2).

Question 8

case 2: c1 < c2

Answer 8

Suppose able get e2 education and unable e1, and this forms a separating equilibrium (e1,e2).
e1 not equal to e2
They can be distinguished so no point in able acquiring an education e1=0.
No separating equilibrium possible. PROVE…
Start with does able have incentive to mimic unable? greater than or equal…
At equilibrium firm cannot distinguish between workers. Workers all get w = ba2 + (1-b)a1. No point in either type of worker getting education.
–> pooling equilibrium

Question 9

types of equilibrium

Answer 9

separating equilibrium: signalling allows the two types of workers to be separated from one another at equilibrium.
Pooling equilibrium: signalling fails to separate the types

Question 10

does signalling always cause inefficiency

Answer 10

No: used car market:
Sellers offer warranty if the car turns out to be a lemon. Lemon would not mimic this since they’d have to keep paying out.

If education enhances productivity, there may not be inefficiency