University study isn't a good deal, if you are going to drop out

This week in my ECONS102 class, we're discussing the economics of education. In class today, we covered the private education decision - rational individuals weigh up the costs and benefits of education, and will undertake further education if the benefits are at least as great as the costs.

The private benefits of education include the incremental increase in lifetime earnings (from receiving a higher wage or salary). There are also benefits in terms of higher productivity (which will be reflected in higher wages, but higher productivity in non-market activities is a benefit as well, which is not captured in wages), signalling (which is captured in the wage - see this post and this post for more on this), socialisation (building a social network, social and 'soft' skills, which again is probably captured in the wage), and a bunch of outcomes that improve with education, such as improved health, marital stability, better outcomes for children, and so on. The majority of the benefits arise from incremental income.

The private costs of education include tuition fees and other 'direct' costs (such as textbooks, stationery, uniforms, etc.), foregone income (from giving up some work in order to study) and foregone leisure. There may also be incremental accommodation and living costs, but only to the extent that those costs are higher than they would have been if the person were not studying. The majority of the costs arise from foregone income (and leisure).

For most people undertaking university study, the benefits (dominated by higher lifetime earnings) outweigh the costs (dominated by foregone income). But that is not always the case, as this Wall Street Journal review (possibly gated for you) of the David Kirp book The College Dropout Scandal notes:

As David Kirp notes in “The College Dropout Scandal,” “the contention that college is the engine of social mobility is false advertising for the 34 million Americans over twenty-five . . . who have some college credits but dropped out before receiving a diploma.” What is more, many such students “are worse off economically than if they hadn’t started college,” thanks to the money they’ve spent on tuition, not to mention the opportunity cost of the wages they’ve foregone.

If the benefits of education are dominated by incremental lifetime earnings, then a student really needs to be getting a better job at the end of their education. If not, then it is likely that the costs outweigh the benefits, and the student would have been better off not engaging in the education in the first place. This applies to university study, but also to any other private education decision.

Kirp's book focuses on the case of university (college) dropouts. University dropouts benefit from some skill development, but as Bryan Caplan notes in his book The Case Against Education (which I reviewed here), a dropout misses out on the 'sheepskin' effects associated with completing their degree or diploma. Even worse, dropping out provides a negative signal to employers, that this is a student who can't succeed at university, so it is more likely that they also can't succeed in the workplace. Dropouts face most of the costs of the education, with little of the benefits. Therefore, it is entirely possible that studying actually makes them worse of, on balance.

University dropouts aren't the only group where I see that the benefits of education may be less than the costs. In particular, I worry about students enrolled in low-value courses at private training establishments (PTEs), such as the many institutions found here in New Zealand. Sure, a student enrolled in a business course at a PTE is probably learning some useful skills, but the signal they are providing to employers is ambiguous - if the student completes the course, they are signalling that they are someone who can complete a PTE course. In the eyes of employers, that probably ranks the student above those who can't complete a PTE course, but certainly below polytechnic business students, and well below university business or commerce students. If on balance this is a negative signal, then the benefits from this education are going to be fairly low. And in that case, it may be that the costs of PTE training outweigh the benefits.

All students should understand the private education decision, but more importantly they should understand the importance of signalling.

[HT: The Dangerous Economist]

Read more:

• Book review: The Case Against Education
• Why all students need to understand adverse selection and signalling