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The relation between education and economy is interdependent and reciprocal. Education is a form of human capital, an intangible form of accumulated capital stock, which includes level and dispersion of education as well as those of applied and basic research. It has many measurable forms, including years of aggregate schooling, rates of enrollment, public education expenditures, and levels, types, and use of on the job training programs. Economic activity is understood as economic growth, usually measured as changes in the size or rate of gross or per capita gross domestic output, and determinant of how much improvement will occur in a society’s standard of living. Unlike business cycles, which reflect short term (<10 years) aggregate fluctuations in output, incomes, and employment, economic growth is a long term concept, depending on past investments in physical capital like industrial plants and machinery, human capital, and the pace of technological innovation.
The major dimensions of education and economy include the causal directions and the levels of analysis for effects. The effects of education on economic growth are to be distinguished from effects of the economy on educational expansion. Microscopic research analyzes the effects of education on individual characteristics such as wages and occupational status. Macroscopic research focuses on the effects of education on aggregate output and productivity for national economies. Five theories guide related research: class reproduction, human capital, functional, institutional, and stratification. In addition, contemporary growth models are more likely to rely on total factor production, addressing the efficiency with which factors of production are used and reflecting a broad range of economic and socio cultural influences, rather than growth accounting, which is limited to a narrower range of economic factors of production.
Early reliance on human capital theory in economics and functional theory in sociology posited that education increased the productivity of national economies through increasing the productivity of individuals. Human capital and aggregate productivity studies assumed that more highly educated workers were more productive on the job, arguing that wages were the measure of worker productivity. It was questionable, however, whether wages should be used as a measure of marginal productivity, since this assumed a perfectly competitive labor market in equilibrium.
In regard to effects of the economy on education, earlier empirical studies challenged the functional theory view that as economies industrialize and jobs require greater literacy and technical skills, education expands in response. Secular mass schooling often preceded demand for high level industrial jobs in industrial and undeveloped countries. Early industrialization was also found to retard educational development. Early pressures to develop formal schooling were typically from political, religious, or cultural elites and focused on training state bureaucrats, military leaders, and religious cohorts, not on developing economic skills.
Class reproduction, human capital, functional, institutional, and stratification theories on the whole present clear though different images of education and the economy. The empirical evidence through the mid 1990s blurred lines separating them, many variables used were proxies for difficult to measure attributes, and the quality of data varied across studies.
Bleaney and Nishiyama (2002) examined three competing models of economic growth. All three study models had 26 explanatory measures in common, including the log of initial per capita GDP. No one model dominated the others, implying that an encompassing model with explanatory variables from all three fit the data better than any of the original models or any pair of them. In the final encompassing model passing a battery of tests for adequacy, human capital (that is, male schooling), institutions, specialization in primary products, and terms of trade changes were all determinants of growth between 1965 and 1990.
Although inconsistencies across studies and complexities about relationships remain, contemporary research benefits from cross country, cross sectional panel data with a focus on the question, ‘‘Under what conditions does education contribute to economic growth and vice versa?’’ Barro (2001) has shown that economic growth is positively related to the starting level of average years of school attainment of adult males at the secondary and higher levels and has no relationship to primary education. Judson (1998) has shown that allocation matters: higher investment in universal primary education plays a positive role in economic growth, especially in poorer countries.
Kalaitzidakis et al. (2001) show a nonlinear relationship between education, measured as mean years of schooling, and economic growth, measured as per capita GDP growth between 1960 and 1990. They also report no relationship between education and economic growth for high income/capital countries, due in part to contrasting effects of male (positive) and female (negative) education.
Krueger and Kumar (2004) contend that higher rates of publicly subsidized investments in vocational education was one possible factor contributing to increased economic growth in Europe vis-a-vis that of the US in the 1960s and 1970s. As the rate of technological progress increased throughout the 1980s and 1990s, such subsidies contributed to the slower rate of economic growth than that of the US.
Bils and Klenow (2000) show that schooling accounted for less than one third of per capita GDP growth and that schooling responded to the anticipated rate of growth from income accompanying increases in GDP. They also note the importance of institutional factors such as better enforcement of property rights and greater openness in inducing faster GDP growth and higher school enrollments.
Galor and Tsiddson (2002) show that the evolutionary pattern of human capital distribution, income distribution, and economic growth were determined simultaneously by the inter play between a local home environment externality and a global technological externality. When the home environment externality was the dominating factor, the distribution of human capital and the wage differential between skilled and unskilled labor became polarized. Inequality enabled members of more highly educated segments of society to overcome forces of a low, stable, steady state equilibrium and to increase investment in human capital. As such investment increases and ‘‘trickles down’’ to the less educated segments of society via technological progress in production, the return to skill improves, and investment in human capital becomes more beneficial to members of all segments of society.
Finally, correcting for the conceptual unsuitability of many indicators of institutional quality, both political and social, Glaeser et al. (2004) show that human capital investment between 1960 and 2000 was a robust predictor of economic growth independently of institutional development and that institutional improvement follows economic growth. Equally important, findings of this cross national study indicated that the key human capital externality was not technological, but political: courts and legislators replaced guns. These institutional improvements in turn brought about greater security of property and economic growth.
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