A SIGNALING THEORY OF GRADE INFLATION*

Authors

  • William Chan,

    1. The University of Hong Kong, China; University of Toronto, Canada; The University of Hong Kong, China
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  • Li Hao,

    1. The University of Hong Kong, China; University of Toronto, Canada; The University of Hong Kong, China
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  • Wing Suen

    1. The University of Hong Kong, China; University of Toronto, Canada; The University of Hong Kong, China
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    • 1

      We thank Bill Dougan, Rick Hanushek, Eddie Lazear, Steven Levitt, Mike Maloney, Curtis Simon, Robert Tamura, and seminar audiences at Stanford University, Clemson University, University of Hong Kong, University of Toronto, and Hong Kong Economic Association Biennial Conference for helpful comments. Chan and Li are grateful for the hospitality of the Hoover Institution. Please address correspondence to: Wing Suen, School of Economics and Finance, The University of Hong Kong, Pokfulam, Hong Kong. E-mail: wsuen@econ.hku.hk.


  • *

    Manuscript received August 2005; revised May 2006.

Abstract

When employers cannot tell whether a school truly has many good students or just gives easy grades, a school has incentives to inflate grades to help its mediocre students, despite concerns about preserving the value of good grades for its good students. We construct a signaling model where grades are inflated in equilibrium. The inability to commit to an honest grading policy reduces the efficiency of job assignment and hurts a school. Grade inflation by one school makes it easier for another school to do likewise, thus providing a channel to make grade exaggeration contagious.

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