Intermediate Microeconomics and Its Application 12th Edition by Walter Nicholson,Christopher Snyder

Exercise 16

Those of you who are studying microeconomics as part of your college education are probably paying quite a bit to be in school. It is reasonable to ask whether this spending is somehow worth it. Of course, many of the benefits of college (such as the better appreciation of culture, and friendship) do not have monetary value. In this application, we ask whether the cost is worth it purely in dollar terms.
Measuring Costs Correctly
The typical U.S. college student pays about $22,000 per year for in-state tuition, fees, and room and board charges. So one might conclude that the "cost" of four years of college is about $88,000. But this would be incorrect for at least three reasons-all of which derive from a simple application of the opportunity cost idea:
• Inclusion of room and board fees overstates the true cost of college because most of these costs would likely be incurred whether you were in college or not.
• Including only out-of-pocket costs omits the most important opportunity cost of college attendance-foregone earnings you might make on a job.
• College costs are paid over time, so you cannot simply add 4 years of costs together to get the total.
The costs of college can be adjusted for these factors as follows. First, room and board costs amount to about $9,000 annually, so tuition and fees alone come to $13,000. To determine the opportunity cost of lost wages, we must make several assumptions, one of which is that you could earn about $20,000 per year if you were not in school and can make back only about $2,000 in odd jobs. Hence, the opportunity cost associated with lost wages is about $18,000 per year, raising the total annual cost to $31,000. For reasons to be discussed in Chapter 14, we cannot simply multiply 4 · $31,000 but must allow for the fact that some of these dollar payments will be made in the future. In all, this adjustment would result in a total present cost figure of about $114,000.
The Earnings Gains to College
A number of recent studies have suggested that college graduates earn much more than those without such an education. A typical finding is that annual earnings for otherwise identical people are about 50 percent higher if one has attended college.
Again, using our assumption of $20,000 in annual earnings for someone without a college education, this would imply that earnings gains from graduation might amount to $10,000 per year. Looked at as an investment, going to college yields about 9 percent per year (that is, 10/114 _ 0.09). This is a relatively attractive real return, exceeding that on long-term bonds (about 2 percent) and on stocks (about 7 percent). Hence, being here does seem worth your time.
Will the Payoffs Last?
These calculations are not especially surprising-most people know that college pays off. Indeed, college attendance in the United States has been expanding rapidly, presumably in response to such rosy statistics. What is surprising is that this large increase in college-educated people does not seem to have reduced the attractiveness of the investment, even in the weak labor markets that prevailed after the 2008-2009 recession. It must be the case that for some reason the demand for college-educated workers has managed to keep up with the supply. Possible reasons for this have been the subject of much investigation.1 One likely explanation is that some jobs have become more complex over time. This process has been accelerated by the adoption of computer technology. Another explanation is that trade patterns in the United States may have benefited college-educated workers because they are employed disproportionately in export industries. Whatever the explanation, one effect of the increased demand for such workers has been a trend toward greater wage inequality in the United States and other countries (see Application 13.3).
The U.S. government offers loans and grants to many students so that they can attend college. Why are such loans necessary if college is such a good investment? Should the government provide larger loans to students who attend private schools where tuitions can be up to three times those charged for in-state students at public universities? From our calculations it seems that the return to attending a private college would be much smaller than from attending a public school because of these higher tuitions. Do you believe that actually is true? Should the promised rate of return determine how much the government will lend?