Policy Brief: Higher Education Spending

Introduction  

            Over the past several decades, the popularity of college education has been increasing significantly.  According to the Bureau of Labor Statistics, approximately 65.9% of high school graduates enroll in college.¹ Of these enrollees, about 60% attend 4-year institutions seeking degrees most commonly in business, social science and history, health professions, and education.² Finally, the overall graduation rate for 4-year degree-granting institutions was 59%.  By working through these numbers, we find that just over 23% of high school graduates go on to complete 4-year college degrees.    

            Given the fact that nearly a quarter of high school graduates complete 4-year college degrees, it is important to consider the value of post-secondary education.  There are two economic models at play here.  The first is the human capital model which reasons that those who continue their education receive skills through education that are valued in the labor market.  The second is the signaling model, which conversely reasons that those who attend higher education institutions are simply signaling their pre-existing abilities by attaining a degree.  By analyzing the implications of these two perspectives, we can arrive at useful conclusions about the value of education. 

Background

            One of the most appealing aspects of obtaining a 4-year college degree is the wage premium that arises due to this additional education.  The National Center for Education Statistics finds that the median earnings for the average adult holding a bachelor's degree is about 50% higher than the respective adult with only a high school diploma.³ Interestingly, those who go to college but do not obtain a degree typically earn only 6.8% more than high school graduates. 

            Many education studies assume that the relationship between education and earnings is linear.  This makes sense under the human capital model because increases in education should lead to increases in human capital.  However, the data suggest that this may not be the case.⁴  In fact, those who drop out just prior to graduation, completing up to 96% of their degree, still hover around a 10% wage premium.  This empirical evidence is highly suggestive of a so-called "sheepskin effect" that supports the assumptions of the signaling model.  The sheepskin effect is the impact of earning a degree on wage premiums.  The fact that someone can finish only a slightly higher degree of education and yet is expected to earn a nearly 40% wage premium over the person that dropped out just prior to graduating implies that it is the degree that carries the most value, not the human capital increases through education. 

Proposal

            This analysis forces us to consider several structural issues surrounding education.  One of the most important issues to consider is who pays for higher education.  The federal government spent 146 billion dollars in academic year 2010-2011 in the form of grants and loans to students.⁵ However, we must ask ourselves if it is appropriate for the federal government to subsidize education when the data suggest that education does little to increase productivity through human capital increases and truly acts as more of a signal of already existing abilities.

            My proposal is that government subsidization of higher education spending should be significantly reduced or phased out.  The reasoning here is that government subsidy is causing an inefficient allocation of resources to education.  Since education evidently does not provide useful increases in the human capital stock but rather only signals the students most innately suited for the workforce, it is not necessary for government to correct for the "market failure" of a less than socially optimal level of education.  Congress should eliminate loans for anyone other than perhaps the truly low income students who have little chance at being able to attend college without some form of assistance.  Even in the case of low income individuals, I would recommend that grant programs be converted into loan programs as to not distort the value of education.                          

Analysis

            Furthermore, government subsidy in the education market causes several additional moral and economic issues.  Since 1965, the federal government has increased real spending on funding for higher education continuously.  This increasing subsidy has several adverse effects in the market for education.  Americans have been increasing their demand for education continuously as well, especially given the fact that it is becoming a larger social norm for women to become educated.  This increase in demand pushes prices higher.  Normally, these increases in prices would be restrained by consumer surplus, but the federal government, acting as a third party, has cushioned the cost of tuition thus diminishing the budget restraint of prospective students.⁶

            Although the federal government has hugely inflated the sticker price of college, federal aid has probably allowed more students to attend college granted that enrollment increased about 48% between 1986 and 2006.⁷ However, this likely caused additional distortions outside of simply rising prices.  More students required remedial work and were less likely to be able to handle the increased academic rigor of college - causing them to drop out.  This has likely placed downward pressure on the quality of academic institutions as they seek to increase retention rates by lowering the standards and rigor of their courses.  This is further evidenced by the fact that literacy among college graduates decreased at similar rates that enrollment grew between 1990 and 2000.⁸ 

            The moral issue surrounding government subsidization of college students is that it is wrong to take money from taxpayers in order to fund college students looking to bolster their future income.  It is particularly unfair when you consider that many taxpayers did not go to college themselves and are indeed paying for someone else to become wealthier.  This extracts money from efficient users and transfers it to less efficient students who have not earned the aid.  Moreover, by ensuring that aid recipients bear the costs of education provides incentives for those best motivated and prepared to succeed in higher education to attend school. 

Conclusion

            The proposed method of eliminating government grants to college students in favor of loans to only means tested individuals would work to correct the distortions caused by a high level of government spending in the education market.  Additionally, decreasing government subsidy in this market would work to lower the sticker price of education, increase the value of education, and increase the quality of academic institutions.             

References

1. U.S. Department of Labor, Bureau of Labor Statistics. (2014). College Enrollment and he Work Activity of 2013 High School Graduates. Retrieved at bls.gov/news.release/hsgec.nr0.htm

2. U.S. Department of Education, National Center for Education Statistics. (2013). Digest of Education Statistics, 2012 (NCES 2014-015), Chapter 3.

3. U.S. Department of Education, National Center for Education Statistics. (2013). The Condition of Education 2013 (NCES 2013–037)

4. Skalli, A. (2007). "Are successive investments in education equally worthwhile? Endogenous schooling decisions and non-linearities in the earnings–schooling relationship." Economics Of Education Review, 26(2), 215-231.

5. U.S. Department of Education, Federal Student Aid, Title IV Program Volume Reports, Direct Loan Program, Federal Family Education Loan Program, Grant Programs. Retrieved from studentaid.ed.gov/about/data-center/student/title-iv.

6. Vedder, Richard. Going Broke by Degree: Why College Costs Too Much. Washington:

American Enterprise Institute, 2004.

7. Cato Institute, Cato Handbook for Policymakers, 7th Edition

8. National Assessment of Adult Literacy, “A First Look at the Literacy of American Adults in the 21st Century,” 2006, p. 15.

Logical Fallacies of the Gender-Wage Gap

It has recently come to my attention that many government officials at the national level, as well as those representing various states, are pushing for additional regulations to address the issue of gender-wage disparity.  Perhaps the most prominent figure, President Obama, was keen to advocate for the passage of the Paycheck Fairness Act in his State of the Union address.  I would like to take a few moments to point out why such action is not necessary.

            First of all, the often cited “77 cents on the dollar” figure is accurate, but it is frequently presented in a very misleading fashion.  The figure is calculated by taking the median wage of all women compared to the median wage of all men.  This statistic does not account for differences in career choices (for example, women are more likely than men to choose to become school teachers and less likely than men to choose to become engineers), differences in employment choices (women are more likely than men to choose to work part time), or differences in work hiatuses (women are more likely than men to suspend their careers when their children are young).  If we control for these factors, the gender wage gap disappears almost entirely. For example, full-time female engineers tend to earn the same as full-time male engineers who have the same years of experience. Full-time female school teachers tend to earn the same as full-time male school teachers who have the same years of experience, the same educations, and specialize in the same disciplines. 

Women sometimes make life choices in which they consciously choose a greater quality of life for themselves or for their children in exchange for lesser income. The data suggest that men who make those same life choices also earn less. The difference is that women are more likely to make these choices than men.  Many women decide to raise children, creating gaps in employment, or work less hours during the week to spend more time at home.  These differences have nothing to do with wage discrimination – only a perfectly reasonable work-life/home-life tradeoff.  As a society we must ask ourselves whether or not women are steered into these life choices, but the potential societal problem is a separate issue with very different solutions.

The data suggest that there is one way to close the “gender-wage gap.” That is to convince women and men that they are making the wrong decisions for themselves and their children – that women need to focus more on their careers and men need to focus less on their careers. But is it the government’s place to tell women for what jobs they should train, and in what way to balance their home life and work life?  Many of us would not appreciate our own parents dictating to us on these matters - let alone politicians.  If women find more satisfaction in trading a career that is rewarding to them for lower wages or taking less hours to spend more time at home, they should be allowed to do so without being ridiculed for not making the same wages as men.   

Those who rally support for bills like the Paycheck Fairness Act or various other state bills by misrepresenting income statistics are doing the public a great disservice.  Politicians must stop misrepresenting data to gain political points – particularly when doing so causes people to second guess hard personal choices they make for themselves and their families.

Wage Laws - Are They Good for Us?

Wage laws, including so-called living wage laws, have been getting a fair bit of attention and political consideration lately.  The President advocates a federal increase of the minimum wage to $9/hr and the city of Seattle has gone even further by contemplating a $15/hr "living" wage.  Surprisingly, economists almost unanimously disagree with wage laws.  Personally, I believe higher minimum wage laws would be exceedingly dangerous.

            One of the biggest issues with the government setting wages is that increasing wages does not increase the value of labor.  "Forcing" a business to pay someone a certain wage does not make their labor worth that particular wage, and when a product is not worth its price, there is no transaction as the transaction would not be mutually beneficial.  This means employees could be laid off or not hired in the first place.  Alternatively, price levels could simply rise to accommodate the increase in input costs, which means those to receive the higher wage will also see a rise in their cost of living.  Another thing to consider is that the more productive workers who make over minimum wage currently will lose their incentive to be more productive because it is very unlikely that they would make more than the new wage and thus would have little reason to be more productive than the less productive workers who are now making the same wages.

            Typically we think of jobs subject to the minimum wage as being entry level food service or retail jobs.  I contend that these types of jobs are not the type of jobs that people who need to be self-sustaining should be working.  If wages are high, employers look for more qualified laborers.  This means that students, young people, and underprivileged people, who generally occupy these low-level positions, may begin to be passed up for people with more work experience.  This is dangerous not only because it leads to high youth unemployment, but also because it can create a generational gap.  Since young people may not get into the workforce and learn basic skills, these skills will be non-existent when they need them to get higher paying jobs in the future.  We already have evidence of these problems being created by the issues youths face in Europe. 

            So, in summary, these wage laws will likely create high youth unemployment, less employment overall, less productivity, higher prices, or any combination in between.  So what could politicians do to raise wages without causing all of these horrible side effects?  The answer, I believe, is most to undo several key regulations they have already built upon.  Politicians could study the industries where the minimum wage is most prevalent and then attempt to make creating new businesses in those industries as easy as possible.  By reducing or eliminating things like licenses to sell food, zoning laws, or any other barriers that firms face in entering markets in order to make it as easy as possible for them to go into business.  If this approach worked, it would benefit literally everyone.  Businesses would fight for laborers, driving wages and employment up while simultaneously driving costs to consumers down.