Signaling and Human Capital Theories: Evaluating Return on Education.
Signaling vs. human capital theories.
In signaling theory, Spencer’s argument is that achievement of valid credentials is a crucial signal to an employer about a potential employee’s productivity. In this theory, education is taken as an individual’s effort regardless of the cost of attaining the credentials. In that respect, Spencer makes fundamental assumptions with one being that job vacancies require the prospective employees to have a certain set of skills and personality. In addition, Spencer classifies the pools of skills into two categories of good and bad, with good indicating a pool with potential for high productivity and bad as being an one indicating low productivity. (Weiss, 1995)
However, the theory argues that it is not possible to identify all the set of skills and personalities in order to separate the good and the bad pools. Thus, employers could rely on education credentials to differentiate those who have potential for higher productivity from those without good productivity prospects. To separate the two, Spencer argues that, although education does not have a direct effect on a potential employee’s productivity, it could be a good signal of them having either good or bad pool of skills since good employees would have a lower opportunity cost for pursuing more education than bad employees. In that respect, good employees would most probably seek to undertake more studies hence the validity of their credentials as a good signal of potentially high productivity which would then translate to higher earnings. (Sessions & Brown, 1999)
On the other hand, there is an argument that education has a direct effect on an employee’s earnings through its...
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... two theories have a similar conclusion of education being a factor in determining an employee’s earnings although the human capital model excludes the unobserved traits from the model’s education factor while the signaling theory includes the traits in the factor.
Works cited
Chelli, F. Castagnetti, C. & Rosti, L. “Educational Performance as Signaling Devices:
Evidence from Italy”. Economics Bulletin 9.4 (2005): 1-7.
Chevalier, A. Walker, I. Harmon, C. & Zhu, Y. “Does Education Raise Productivity, or Just
Reflect it? Economic Journal, Royal Economic Society 114.499 (2004): 499-517.
Sessions, J. & Brown, S. “Education and Employment Status: A test of the Screening
Hypothesis for Italy”. Economics of Education Review 18 (1999): 397-404.
Weiss, A. “Human Capital vs. Signaling Explanation of Wages”. The Journal of Economic
Perspectives 9.4 (1995): 155-154.
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