This article was originally published in the winter 1999 issue of the Expert Witness.
Conventional wisdom appears to suggest that, if young Canadians wish to be competitive in today’s economy, they should concentrate on the relatively technical disciplines, such as engineering and business. I have tested this “wisdom” using information about post-secondary education in Alberta.
In my study, I assume that post-secondary education represents an investment that the individual makes in him- or herself. As with any investment, the investor expects to receive a return on that investment. By calculating the implicit “rates of return” on investment in various types and levels of post-secondary education, and then comparing those rates with the interest rate one could expect to receive on a secure financial investment, I hope to answer the question: “does higher education pay off”?
To understand what is meant by a rate of return on “investment” in education, consider the following simple example. Assume that, at age 20, you were told that if you spent $10,000 on a particular investment, you would be paid $500 per year for the rest of your life. It is easy to see that that investment was equivalent to spending $10,000 on a bond that paid 5% interest (for the rest of your life). Similarly, imagine that if you were to spend $10,000 on education at age 20, that education would result in an increase in your income of $500 per year (for the rest of your life). The purchase of that education could be thought of as yielding an annual rate of return of 5%.
I calculate the rates of return on various types of educational investments and compare those rates of return to the interest rates that one can obtain on secure financial instruments. For the latter purpose, I use a real interest rate of 4.25 percent, (the usual discount rate in personal injury assessments). If the rate of return on a particular level of education is greater than 4.25 percent, then I consider that level of education to be a worthwhile investment for the individual.
When thinking of education as an investment, it is first necessary to identify the “costs” of that investment and the benefits. The cost component of my analysis is composed of tuition fees, the costs of books and supplies, and, most importantly, the income that is “given-up” by choosing to attend school rather than enter the labour force. The benefit component is measured by the increase in income from having one level of education rather than another. For example, the benefit of having a bachelor’s degree over a high school diploma would be measured by the difference in the earnings stream, after the completion of the bachelor’s degree, over the earnings stream of a high school diploma holder.
Before the rates of return were calculated, I examined average incomes by level of education. From my results, the average incomes for males are greater at all levels of education (high school to Ph.D. degrees) than for females. High school resulted in the lowest income, followed by trade school, then college. For the different university degrees available, average income increases with education. The Ph.D. graduates earned the highest incomes, for both males and females.
These results were not a surprise, there have been many studies and articles written about the relationship between education and income. Post-secondary education results in increased average incomes, and the higher the level of education, the higher the average income. Also, the male incomes are higher than the female incomes, another result that is not surprising.
Turning to the rates of return, I found that overall, the highest return on investment (that is the highest benefits relative to the costs) results from university education. (See Table 1.) Among university graduates, bachelor’s degrees resulted in the highest rate of return. (See Table 2.)
Table 1: Private Rates of Return from Post-secondary Education: Alberta
Table 2: Private Rates of Return from University Education: Alberta
Overall, the graduate degrees do not offer rates of return on investment that are as high as the rates earned on undergraduate degrees, either for males or females. Many programs at the graduate degree level did not meet my 4.25 percent benchmark, implying that the cost of obtaining this level of education is not justified by the return on investment.
The highest returns for males result from the science and technical programs such as commerce, engineering, and science. (See Table 2.) Females, by comparison, receive the highest returns from the commerce, nursing and health programs – again the more technical programs. The same result occurred at the master’s level, where the science and technical programs offered the highest returns for males. For females, commerce offered the highest return. The next highest resulted from the education and social sciences programs – liberal arts programs, rather than the more technical programs. At the Ph.D. level, the humanities program for males and the fine arts program for females result in the highest return on investment. Thus, at the Ph.D. level, the highest returns result from the liberal arts programs, not the science and technical programs that fared well at the undergraduate and master’s levels.
Females generally receive a higher return on investment than males, even though the resulting incomes are lower than for males. The lower average incomes for females means that the amount of income “given up” while attending post-secondary institutes is less for females than for males, making the costs for females lower. Since costs are lower, it does not take as long to recoup the investment.
A surprising result is that the return to college and trade education falls just short of my 4.25 percent benchmark. This implies that an individual considering investing in this level of post-secondary education would receive a higher return on their money by allocating the funds to an alternative investment, or attending university. Although the average incomes do increase with any type of post-secondary education, from an investment perspective, the returns resulting from trade and college education are not as high as from a university education.
My results indicate that individuals planning to “invest” in post-secondary education would receive the highest return from an undergraduate degree, especially the science and technical programs. The increase in income will more than cover the cost of attaining the degree, meaning the investment will “pay-off”. Diploma and certificate programs offered by trades and colleges do increase average incomes, but it is questionable whether or not these “pay off” from an investment perspective based on my assumptions. The average income these graduates receive is higher than income received by high school graduates, but the increase may not cover the entire cost of acquiring the education.