Signalling

The signalling model, proposed by Nobel laureate Michael Spence, addresses problems in markets with information asymmetry. The central idea is that in environments where information is incomplete or unevenly distributed, the party with private information (the informed party—such as job seekers or sellers) can credibly convey hidden qualities or intentions to the less-informed party (such as employers or buyers) by undertaking observable, costly actions—known as "sending a signal." The effectiveness of a signal lies in differential costs: high-quality individuals or entities face relatively lower costs in sending the signal, while low-quality ones find it too expensive or impractical to imitate. This cost disparity ensures the signal’s authenticity and credibility.