Investing in human capital

Posted 2023-05-10 18:45:31

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Key points

Almost universally, economists agree that it is a good individual decision to invest time and money into education.
Society also benefits from education—better health outcomes for the population; lower levels of crime; a cleaner environment; and a more stable, democratic government are positive externalities of investment in education.
Private rates of return go primarily to an individual; for example, earning interest on a savings account.
Social rates of return go primarily to society; for example, providing free education.

Why invest in human capital?

Investment in anything—whether it is the construction of a new power plant or research in a new cancer treatment—usually requires a certain upfront cost with an uncertain future benefit. The investment in education, or human capital, is no different.

Private benefits of education

Think of a student. Over the span of many years, she and her family invest significant amounts of time and money into her education. Their hope is that higher levels of educational attainment will eventually serve to increase the student’s future productivity and subsequent ability to earn. Once the numbers are crunched, does this investment pay off for the student?

Almost universally, economists have found that the answer to this question is a clear yes. For example, several studies of the return to education in the United States estimate that the rate of return to a college education is approximately 10%. The table below—showing data from the US Bureau of Labor Statistics’ Usual Weekly Earnings of Wage and Salary Workers, Third Quarter 2014—demonstrates that median weekly earnings are higher for workers who have completed more education. While these rates of return will beat equivalent investments in Treasury bonds or savings accounts, the estimated returns to education go primarily to the individual worker, so these returns are private rates of return to education.

Usual weekly earnings of wage and salary workers, third quarter 2014
	Less than a high school degree	High school degree, no college	Bachelor’s degree
Median weekly earnings, full-time workers over the age of 25	$488	$668	$1,101

Social benefits of education

But what does society gain from investing in the education of a student? After all, if the government is spending taxpayer dollars to subsidize public education, society should expect some kind of return on that spending. Again, economists have found that, across a variety of nations, the social rate of return on schooling is also positive.

Positive externalities exist from investment in education. These positive externalities are not always easy to measure, but according to Walter McMahon, the positive externalities to education typically include better health outcomes for the population, lower levels of crime, a cleaner environment, and a more stable, democratic government. For these reasons, many nations have chosen to use taxpayer dollars to subsidize primary, secondary, and higher education.

Education clearly benefits the person who receives it, but a society where most people have a good level of education provides positive externalities for all.

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