In the Soho Forum debate on “All government support of higher education should be abolished” , I heavily based my argument on the signaling model of education. But if I were a human capital purist, I still would have defended the abolitionist position – albeit less triumphally. Here’s how:
1. Prospective college students, unlike K-12 students, are adults – both legally and practically.
2. Hence, if they want to invest in themselves, they or their families can and should pay for it. This would be a lot easier than it is today, because government subsidies have greatly inflated tuition.
3. If prospective college students or their families don’t have the money, they can borrow the money on the free market. This will normally be doable as long as the investment is worthwhile.
4. As an added bonus, lenders will provide useful feedback about the wisdom of prospective students’ educational plans. If you can’t get finance on reasonable terms, you’re probably making a mistake with your life.
5. While a free-market for educational loans suffers from numerous credit market imperfections, so does a free market for any business loan. In the real world (as opposed to a homework problem), government is unwise to second-guess lenders’ reluctance to lend large sums to borrowers with no/bad credit and little/no collateral.
6. It’s especially unwise to arbitrarily pick out educational investments for special treatment. If investment is socially suboptimal, government should adopt across-the-board pro-investment policies (for example, by making investment interest tax-deductible), not play favorites.
7. Educational philanthropy provides a massive safety net for poor talented, motivated youth who can’t obtain financing. In the absence of government funding, we should expect this philanthropy to be even more generous than it already is.
READER COMMENTS
Jason S.
May 17 2018 at 4:44pm
IMHO, you should have made this point in your book. Some readers may get the impression from your book that the case for slashing public funding of education is less robust than it in fact is, or in some way depends on a large signaling component of the return from a degree. The case for ed subsidies requires some really implausible, virtually unfalsifiable arguments about net positive externalities.
Steve Waldman
May 17 2018 at 6:46pm
It seems odd not to address the standard economic case for subsidies to higher-ed: that human capital, in addition to its ability to generate financial returns for its holders, creates positive externalities in terms of better communities, wiser politics, faster science, better parents etc etc etc that cannot be captured as a revenue stream by the student or transferred to repay a loan.
Note that I am not making this case, for me. I a broadly sympathetic to your anti-higher-ed project. Under different circumstances I probably would be more sympathetic to this positive externality case than you are, but for now I think the expense and human cost (severe negative externalities!) of the signaling arms race dwarfs those kinds of pleasantries.
But in the interest of arguing against the views supporters actually hold, higher ed supporters tell us we should subsidize education at every level not as a gift to students, but for the positive effect it has on the community as a whole, far beyond what reliably is captured as incremental revenue by an individual student.
Points 2 through 6 above do not survive the positive externality argument, if you buy it.
john hare
May 17 2018 at 7:14pm
This is a much stronger argument than the signaling one to me, and probably to any that are not deep into your methodology. To quote Dave Ramsey, “Who thought it was a good idea to loan a hundred grand to an eighteen year old that has never had a job?”
Brandon Berg
May 18 2018 at 12:08am
Investment interest is tax deductible, isn’t it?
Joshua
May 18 2018 at 7:32am
I agree with Jason S. This would be good to have in the book somewhere even if as a postscript so as to avoid over complicating the argument. Possibly could go in the 2nd edition 🙂
robc
May 18 2018 at 10:21am
I don’t know about less triumphantly…that is a pretty strong argument. It might even be more triumphant, in that it argues from your opponents premises and still reaches your conclusion.
Miguel Madeira
May 18 2018 at 11:57am
5 – The classic credit system have the problem that you can’t mortgage your degree and you also can’t offer shares of you (and high risk investiments are better financed by shares than by loans; like I read somewehere about a very different issue: “But startup small businesses shouldn’t be financed with bank loans (…). Most small businesses fail. This is Portfolio Theory 101. If you own the stock of 100 startups, and 99 go bust but one becomes Microsoft, you get rich. But if you are a bank, and you lend money to the 100 startups, and only 1 can pay you back, then you go bust.Thus startups are financed with equity, not debt. This is taught to first-year finance students.”)
We can imagine an alternative world where you can sell shares of you, but this has its own problems (in extremis, this could mean slavery).
Jose Pablo
Jun 15 2018 at 6:55pm
But students are not start-ups. The relevant differences for this topic are:
Most of the students will earn enough money to pay back their loans (the default ratios are pretty far from being 99% as per your example)
Even if the fail to graduate, their undergraduate earnings could still be enough to pay-back the loan, actually some of the richest man in the world are themselves drop-outs.
Miguel Madeira
May 18 2018 at 11:59am
« To quote Dave Ramsey, “Who thought it was a good idea to loan a hundred grand to an eighteen year old that has never had a job?”»
Ironically, this could be used as a strong argument in FAVOR of tax-funded college (it is an evidence of the problems in creating a true functional market for loans to education).
robc
May 18 2018 at 12:49pm
Migual,
We dont have to imagine it, someone already has.
I don’t recommend it, I found the writing weak.
Demosthenes
May 18 2018 at 1:22pm
The government providing loans for higher education is not necessarily the same thing as tax-funding college.
The implications of credit market imperfections is that the investments would otherwise be profitable.
john hare
May 18 2018 at 7:55pm
@Miguel,
I disagree. Get rid of a lot of the ‘free’ money and the higher education will have to find a way to become affordable to more than the rich or connected. The theoretical cost that education could reach is that that could be affordable for entry level workers working their way through.
I could easily see getting direct cost of a bachelors degree to $15k in many fields. And possibly incentivizing other signals that are less wasteful of time and wealth as well. There are also many scholarships available that are not from the taxpayer.
Mark Z
May 18 2018 at 11:02pm
Miguel,
A bank *could* still come out ahead if most of its risky borrowers default but one doesn’t, if he charges a high enough interest rate. Of course, it’d likely be illegal to charge the appropriate rate under such a circumstance as it would be considered loansharking, but the fact remains that if the market rate is illegal, it’s not the market that’s the problem, it’s the law.
If the bank is only willing to loan money to a student at a rate the student is unwilling to pay, it’s not a market failure that the student doesn’t stay in college. Presumably, if a kid’s parents are as adamant as so many are that their children go to college, they can put their house up as collateral to get a lower rate, then make sure their kid graduates.
Anyway, it seems like the main “market failure” with student loans is very similar to the main healthcare “market failure.” People want a service but don’t want to have to pay for the cost.
Floccina
May 21 2018 at 12:27pm
It is interesting to think about what the world would look like if schooling was 80%+ human capital formation.
I think it would look very different than what exists.
Matthias Görgens
May 21 2018 at 9:41pm
Floccina, as a starting off point for the imagination, look at what people do when they want to learn a skill and don’t get a piece of paper at the end.
Matthias Görgens
May 21 2018 at 9:41pm
Floccina, as a starting off point for the imagination, look at what people do when they want to learn a skill and don’t get a piece of paper at the end.
Smithee
May 22 2018 at 1:24am
Professor Caplan:
Even if we assume that education is mostly signaling, why must this signaling be a bad thing?
My understanding of your argument is that educational signaling is a deadweight loss wherein people are wasting valuable time and resources credentialing themselves, but that all this credentialing is a (near) zero sum game, because there are (almost) no human capital gains being made and therefore no increased productivity across the economy–just some people with a better degree than the next guy. We’d all be better off if everyone quit the one-upsmanship and got to work doing something productive.
I think this might miss a possible source of additional productivity: the efficiency gain of having credentials. When employees come with a diploma that tells a company exactly how competent they are, they’re a lot more useful to that company. The massive sorting system that is higher education accurately identifies competence for businesses.
Some surely would disagree with this, saying academic success isn’t correlated with job success and so on.
The most compelling reason to believe it, however, is that if businesses did not benefit from higher education, they would put it out of business. If educational credentialing wasn’t useful or significantly more accurate than other forms of evaluation, companies would administer tests to high schoolers and the unemployed and select the best workers. Kids would stop going to college, seeing the waste of 4 years and $200k+ as unnecessary.
This is not what we see. Google waits until you’ve graduated college, perhaps grad school, before hiring. If they could identify Google-level talent out of high school, that damn sure would. But they don’t, so it’s safe to assume they can’t.
…
I apologize for not being finished with the book yet, and it seems likely that you’ve considered this question. I’ll offer a hypothetical addition, one that you might make in your book, though I simply don’t know. As follows…
There is a signaling value to education. But this value is far less than the resources we expend on education. How does this happen? Why doesn’t the market choose the economically efficient solution?
Because society subsidizes education. Whether through taxes and loans or non-profit groups that devote themselves to the cause, we have many who supply education beyond the amount that the market demands.
If we eliminate education subsidies (that includes non-profit help), the market will determine how much education Americans receive.
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