  We propose a framework to assess how to optimally sort and grade students of
heterogenous ability. Potential employers face uncertainty regarding an
individual's productive value. Knowing which school an individual went to is
useful for two reasons: firstly, average student ability may differ across
schools; secondly, different schools may use different grading rules and thus
provide varying incentives to exert effort. An optimal school system exhibits
coarse stratification with respect to ability, and more lenient grading at the
top-tier schools than at the bottom-tier schools. Our paper contributes to the
ongoing policy debate on tracking in secondary schools.
