Education and Human Capital Adapted in part from material by John Kane, SUNY-Oswego

Overview There is a robust relationship between education and earnings. Why? What determines the level of education selected by an individual?

Human capital model Human capital - an individual’s productive capacity. Human capital may be increased by investments in: –education, –training, –experience, and –health care. Individuals with more human capital receive higher pay (since they are more productive).

Human Capital? EARLY in the term, we talked about trade-offs. One was current consumption v. future consumption. Another way of talking about this is consumption goods and capital goods. Capital Goods Consumption Goods High Current, Low Future High Current, Low Future Low Current High Future Low Current High Future

College education COSTS current consumption Direct costs (tuition, books, supplies), Forgone earnings (opportunity cost of time), and Psychic costs (angst, worry, etc.)

Benefits of College Education Higher expected earnings, More pleasant jobs, Lower expected unemployment rates, and Psychic benefits (Different kinds of angst, impressing others with how brilliant you are, etc.)

Optimal investment in education Evaluated in terms of marginal, benefits, marginal costs. If MC increase, we invest less.

Optimal investment in education Evaluated in terms of marginal, benefits, marginal costs. If MB increase, we invest more.

Choice between high school and college degree Costs come early … Benefits come late Do benefits exceed costs?

Factors influencing human capital investment Interest rates, Age of the individual, Costs of education, and Wage differential between high school and college graduates. Wage differential between college and professional school graduates (remember pharmacy example!).

Gender and age-earnings profiles Historically, women have had shorter expected worklives. Lower incentives for investment in education. Increases in female educational attainment are caused by (and are a cause of) increased expected worklives for women.

Cobweb Model Lagged supply response. Applicable in labor markets with high educational and/or training requirements. Examples – Medical school, chemical engineering, computer science.

Cobweb model (cont.)

w′′

Rate of Return to Education Earnings increase with the level of education (though people with doctoral degrees have lower average earnings than those with professional degrees). For instance, the average earnings of male high school graduates age was $35,407, while those with a bachelor’s degree was $58,509 – a 65% difference. The "rate of return to education" is what analysts call the percentage increase in annual earnings associated with each additional year of schooling. The 65% earnings increase that men age accrued for their four years of college education amounted to a 13% compounded average rate of return. Do YOU know any investment that returns 13% or more year after year?