The economic impact of universities

I've been quite critical of 'economic impact studies' in the past (for example, see here). These studies try to estimate the economic impact by aggregating up all of the spending associated with an event (for example). The key problem is that they don't usually properly take account of the counterfactual - what would have happened if the event hadn't taken place. In the case of the economic impact of a particular industry, it can be difficult to establish what the counterfactual actually is - what would have happened if that industry didn't exist? That is the case when you try to estimate the economic impact of a university, for example.

An alternative approach is to avoid trying to estimate the economic impact of a particular university, but instead to compare regions that have universities from those that don't. That can include comparing regions before and after a university is established there, as well as comparing regions with different numbers of universities.

Essentially, that is the approach taken in this 2019 article by Anna Valero (London School of Economics) and John Van Reenen (MIT), published in the journal Economics of Education Review (open access, but just in case there is an earlier ungated version here). Valero and Van Reenen use data on economic growth rates and the number of universities in 1498 regions across the world, covering the period from 1960 to 2010 in five-year time steps. They find that:

...on average, a 10% increase in the number of universities in a region is associated with around 0.4% higher GDP per person.

The results are robust to a variety of different specifications. However, that isn't all. Not only are universities associated with higher growth within a region, the higher growth also spills over into surrounding regions, such that:

...a 10% increase in universities in the rest of the country (which in most cases will represent a greater absolute increase than a 10% increase in home region universities) is associated with an increase in home region's GDP per capita of around 0.6 per cent.

They also find that the effect is greater for poorer regions, suggesting that:

...new universities have a stronger impact on laggard regions within a country.

Valero and Van Reenen then go on to investigate the important question of how universities might contribute to higher GDP per capita. They suggest four possible mechanisms:

(i) a greater supply of human capital; (ii) more innovation; (iii) support for democratic values; and (iv) demand effects.

The first two are obvious, but it turns out that changes in human capital (as measured by the share of university graduates) and changes in innovation (as measured by the cumulative number of patents) only explain a small proportion of the effect of universities on GDP per capita. In terms of the third mechanism, Valero and Van Reenen first note that:

Universities could promote strong institutions directly by providing a platform for democratic dialogue and sharing of ideas, through events, publications, or reports to policy makers.

This is over and above any effect that universities might have on human capital. Looking at the impact of universities on support for democratic institutions (using data from the World Values Survey), they find that:

...there is a highly significant association between university presence in a region and approval of a democratic system.

Interestingly, this result is not driven by university graduates, because they get the same result if they drop graduates from the World Values Survey sample.

Finally, Valero and Van Reenen look at demand effects, which is the only channel that a traditional economic impact study would consider - how much of an effect does the spending of students and staff and the university itself have on the economy? They find that:

...we can explain around 15% of the regression coefficient on universities.

In other words, the vast bulk of the economic impact of universities is not even going to be picked up in a traditional economic impact study.

Of course, this research isn't going to be the last word on this topic. Even though Valero and Van Reenen run a battery of robustness and other checks, their results are still based on correlations and so they cannot be definitive about universities causing higher GDP per capita. However, in their robustness checks they do seem to have eliminated many of the most plausible alternative explanations. They are also unable to definitively address questions about the extent to which the size or quality of universities matters. Universities do have a positive economic impact on a region (and neighbouring regions), and we are getting closer to understanding how large that impact is, and how it arises.