Signaling_6

Signaling_6 - Signaling The human capital model suggests...

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1 The Signaling Model Ch 9 pp. 300-308 Signaling The human capital model suggests that workers who acquire more education will earn higher wages. – Education increases human capital, which increases productivity. Workers with more education are paid higher wages due to increased productivity. The signaling model provides an alternative explanation for why workers with higher education earn higher wages. – Education does not increase productivity, however, more educations signals to employers that the worker has a high underlying productivity or ability. Workers with more education are paid higher wages due to higher productivity. Signaling Model: – Two types of workers: High ability, H, and low ability, L. – High ability workers have marginal revenue product equal to 2. – Low ability workers have marginal revenue product equal to 1. – Firms cannot observe worker productivity, only characteristics such as age and education. – Firms are profit maximizing. If they can distinguish between workers, they would be willing to pay high ability workers $2/hour and low ability workers $1/hour. If they can’t distinguish between workers, they would pay workers their expected productivity. – Workers are utility maximizing. Workers will choose the education level where the difference between total benefit and total cost is the largest. Assumptions • Firms cannot observe worker productivity. • Key Assumption: Workers with higher ability have a lower cost of education. – Fewer repeated classes => less tuition – Lower psychic costs – More funding and scholarships Costs Let TC H be the total cost of education for workers with high ability. Let TC L be the total cost of education for workers with low ability. Total Cost 0 Years of education beyond HS TC L TC H Wages Suppose that firms believe that workers who acquire more than e* education are high ability types and workers who acquire less than e* education are low ability types. Workers would receive the following wages, depending on their education level. wages 0 e* Years of education beyond HS $2/hour $1/hour Wages
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2 Total Earnings Let PVE 2 be the present value of lifetime earnings for a worker who acquires more than e* years of education and earns $2/hour. Let PVE 1 be the present value of lifetime earnings for a worker who acquires less than e* years of education and earns $1/hour. Present value of
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This note was uploaded on 10/22/2008 for the course ECON 470 taught by Professor Yeonsookim during the Fall '08 term at Maryland.

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Signaling_6 - Signaling The human capital model suggests...

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