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Ratings, certifications and grades: dynamic signaling and market breakdown

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  • Andrzej Skrzypacz

Abstract

We consider the effect a public revelation of information (e.g. rating, grade) has on signaling and trading in a dynamic model. Competing buyers offer prices to a privately informed seller who can reject these offers and delay trade. This delay is costly and the seller has no commitment to the duration of the delay. We show how the external public information allows for signaling in equilibrium. More interestingly, we characterize the dynamics of trade and prices. If the signal is not fully revealing, then there is no trade just before the revelation of external information. A lemons market develops endogenously over time and prevents any trade close to the release of the public announcement. On the other hand, if the external signal is fully revealing, then trade occurs even close to the final period; however, in this case there is a discontinuity in prices.
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Suggested Citation

  • Andrzej Skrzypacz, 2004. "Ratings, certifications and grades: dynamic signaling and market breakdown," Theory workshop papers 121473000000000010, UCLA Department of Economics.
    • Handle: RePEc:cla:uclatw:121473000000000010
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    File URL: http://www.stanford.edu/~skrz/Research.htm
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    JEL classification:

    • C73 - Mathematical and Quantitative Methods - - Game Theory and Bargaining Theory - - - Stochastic and Dynamic Games; Evolutionary Games

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