How Wasteful is Signaling?
Signaling is wasteful. But how wasteful? We study the fraction of surplus dissipated in a separating equilibrium. For isoelastic environments, this waste ratio has a simple formula: $β/(β+σ)$, where $β$ is the benefit elasticity (reward to higher perception) and $σ$ is the elasticity of higher types' relative cost advantage. The ratio is constant across types and is independent of other parameters, including convexity of cost in the signal. We show that the directional effects of $β$ and $σ$ on waste extend to non-isoelastic environments. In an application to signaling tournaments, more competitors or fewer prizes increase waste, with full dissipation in large tournaments.
econ.GN↗