Screening (Economics)

Screening is the uninformed party's counterpart to signaling: instead of waiting for the informed party to send a credible signal, the uninformed party designs a menu of contracts or options that induces the informed party to reveal their type through their choice. The technique, formalized by Joseph Stiglitz and Michael Rothschild in their 1976 analysis of insurance markets, rests on the principle of incentive compatibility — each type must prefer the contract designed for them over the contracts designed for other types.

Screening is the architect's response to adverse selection, just as signaling is the actor's response. An insurer offers a menu of deductibles and premiums; high-risk individuals select low-deductible, high-premium plans, while low-risk individuals select high-deductible, low-premium plans. The separation is not perfect — it requires that the menu be designed with accurate knowledge of the type distribution, which is precisely the knowledge that adverse selection obscures. Screening works best when the uninformed party has market power and statistical sophistication; it fails when types are too similar, when mimicry is too cheap, or when the designer's model of the type distribution is itself selected from a distorted sample.