The Nature of Credit Constraints and Human Capital
01 Oct 2011-The American Economic Review (London (Ontario): The University of Western Ontario, CIBC Centre for Human Capital and Productivity)-Vol. 101, Iss: 6, pp 2487-2529
TL;DR: This paper developed a human capital model with borrowing constraints explicitly derived from government student loan (GSL) programs and private lending under limited commitment, which helps explain the persistent strong positive correlation between ability and schooling in the U.S., as well as the rising importance of family income for college attendance.
Abstract: We develop a human capital model with borrowing constraints explicitly derived from government student loan (GSL) programs and private lending under limited commitment. The model helps explain the persistent strong positive correlation between ability and schooling in the U.S., as well as the rising importance of family income for college attendance. It also explains the increasing share of undergraduates borrowing the GSL maximum and the rise in student borrowing from private lenders. Our framework ofiers new insights regarding the interaction of government and private lending as well as the responsiveness of private credit to economic and policy changes.
Figures (14)
Table 3: Baseline Model Parameters 
Figure 4: dU , hU , hX , and hG for high wealth individuals (w > w̄) 
Figure 3: dU , hU , hX , and hG for low wealth individuals (w ≤ w̄) 
Figure 8: ‘Year 2000’ GSL and Private Lending Constraints 
Figure 9: Private Borrowing (‘Year 2000’) 
Table 2: Estimated Effects of AFQT on College Attendance by Family Income and Wealth (NLSY79 and NLSY97) 
Figure 11: Consumption during Investment Period (‘Year 2000’) with Different Credit Market Assumptions 
Figure 2: College Attendance by AFQT and Family Income or Wealth (NLSY79 and NLSY97) 
Table 1: Borrowing Limits for Stafford and Perkins Student Loan Programs (1993-2007) 
Figure 5: Sufficient Condition for a positive ability-investment relationship in the L model. 
Figure 10: Total Investment (‘Year 2000’) with Different Credit Market Assumptions 
Figure 1: Annual Stafford Loan Limits for Dependent Undergraduates from 1980-2006 (Year 2000 Dollars) 
Figure 6: GSL and Private Lending Constraints (Baseline Economy) 
Figure 7: Private Borrowing (Baseline Economy)
Citations
More filters
TL;DR: In this article, a quantitative model of consumer bankruptcy with three key features: life-cycle component, idiosyncratic earnings uncertainty, and expense uncertainty is presented, and the authors find that transitory and persistent earnings shocks have very different implications for evaluating bankruptcy rules.
Abstract: Consumer bankruptcy provides partial insurance against bad luck, but, by driving up interest rates, makes life-cycle smoothing more difficult. We argue that to assess this trade-off one needs a quantitative model of consumer bankruptcy with three key features: life-cycle component, idiosyncratic earnings uncertainty, and expense uncertainty (exogenous negative shocks to household balance sheets). We find that transitory and persistent earnings shocks have very different implications for evaluating bankruptcy rules. More persistent shocks make the bankruptcy option more desirable. Larger transitory shocks have the opposite effect. Our findings suggest the current US bankruptcy system may be desirable for reasonable parameter values. (JEL D14, D91, K35)
463 citations
TL;DR: In this paper, the authors move the discussion of student loans away from anecdote by establishing a framework for considering the use of student loan in the optimal financing of collegiate investments and show that enrolling in college is equivalent to signing up for a lottery with large expected gains, but it is also a better investment today than a generation ago.
Abstract: Total student loan debt rose to over $800 billion in June 2010, overtaking total credit card debt outstanding for the first time. By the time this article sees print, the continually updated Student Loan Debt Clock will show an accumulated total of roughly $1 trillion. Borrowing to finance educational expenditures has been increasing - more than quadrupling in real dollars since the early 1990s. The sheer magnitude of these figures has led to increased public commentary on the level of student borrowing. [The authors] move the discussion of student loans away from anecdote by establishing a framework for considering the use of student loans in the optimal financing of collegiate investments. From a financial perspective, enrolling in college is equivalent to signing up for a lottery with large expected gains - indeed, the figures presented here suggest that college is, on average, a better investment today than it was a generation ago - but it is also a lottery with significant probabilities of both larger positive, and smaller or even negative, returns. [The authors] look to available - albeit limited - evidence to assess which types of students are likely to be borrowing too much or too little.
383 citations
Cites background from "The Nature of Credit Constraints an..."
...…markets and full opportunities to borrow, the human capital investment decision of how much education to acquire is separable from the consumption and savings choice at each moment in time conditional on expected lifetime earnings (for a formal demonstration, see Lochner and Monge-Naranjo 2011)....
[...]
...Because private lenders have a greater capacity to discriminate among borrowers by their choice of collegiate investments, higher-ability students and students enrolled in the most remunerative degree programs will be offered more credit by private lenders (Lochner and Monge-Naranjo 2011)....
[...]
TL;DR: In this paper, a study of Berea College students suggests that while credit constraints likely play an important role in the dropout decisions of some students, the large majority of attrition of students from low-income families should be primarily attributed to reasons other than credit constraints.
Abstract: A serious difficulty in determining the importance of credit constraints in education arises because standard data sources do not provide a direct way of identifying which students are credit constrained. This paper differentiates itself from previous work by taking a direct approach, made possible by unique longitudinal data from the Berea Panel Study. The results from our study of Berea College students suggest that, while credit constraints likely play an important role in the drop-out decisions of some students, the large majority of attrition of students from low-income families should be primarily attributed to reasons other than credit constraints. (JEL I21, I22)
300 citations
TL;DR: The authors combine a regression discontinuity design with rich data on academic and labor market outcomes for a large sample of Florida students to estimate the returns to college admission for academically marginal students.
Abstract: I combine a regression discontinuity design with rich data on academic and labor market outcomes for a large sample of Florida students to estimate the returns to college admission for academically marginal students. Students with grades just above a threshold for admissions eligibility at a large public university in Florida are much more likely to attend any university than below-threshold students. The marginal admission yields earnings gains of 22% between 8 and 14 years after high school completion. These gains outstrip the costs of college attendance, and they are largest for male students and free-lunch recipients.
276 citations
Additional excerpts
...3 See Cameron and Taber ð2004Þ, Belley and Lochner ð2007Þ, Stinebrickner and Stinebrickner ð2008Þ, or Lochner and Monge-Naranjo ð2011Þ....
[...]
TL;DR: In this paper, the authors review recent developments in the theory of optimal labor income taxation and emphasize connections between theory and empirical work that were initially lacking from optimal income tax theory, and discuss limitations of the standard utilitarian approach and briefly review alternatives.
Abstract: This handbook chapter reviews recent developments in the theory of optimal labor income taxation. We emphasize connections between theory and empirical work that were initially lacking from optimal income tax theory. First, we provide historical and international background on labor income taxation and means-tested transfers. Second, we present the simple model of optimal linear taxation. Third, we consider optimal nonlinear income taxation with particular emphasis on the optimal top tax rate and the optimal profile of means-tested transfers. Fourth, we consider various extensions of the standard model including tax avoidance and income shifting, international migration, models with rent-seeking, relative income concerns, the treatment of couples and children, and non-cash transfers. Finally, we discuss limitations of the standard utilitarian approach and briefly review alternatives. In all cases, we use the simplest possible models and show how optimal tax formulas can be derived and expressed in terms of sufficient statistics that include social marginal welfare weights capturing society’s value for redistribution, behavioral elasticities capturing the efficiency costs of taxation, as well as parameters of the earnings distribution. We also emphasize connections between actual practice and the predictions from theory, and in particular the limitations of both theory and empirical work in settling the political debate on optimal labor income taxation and transfers.
203 citations
References
More filters
TL;DR: In this paper, the authors provide a framework for the understanding of many aspects of observed behavior regarding education, health, occupational choice, mobility, etc., as rational investment of present resources for the purpose of enjoying future returns.
Abstract: T HE application of capital theory to decisions on individual improvement, and in particular improvement of earning capacity, has provided a framework for the understanding of many aspects of observed behavior regarding education, health, occupational choice, mobility, etc., as rational investment of present resources for the purpose of enjoying future returns. The formulation by Friedman and Kuznets (1945) and the significant development of the theory by Becker (1962, 1964) and Mincer (1958, 1962) provided a novel view of the life cycle of earnings by linking it to the time profile of investment in human capital: People make most of their investments in themselves when they are young, and to a large extent by foregoing current earnings. Observed earnings are therefore relatively low at early years, and they rise as investment declines and as returns on past investments are realized. The main reason why investment is undertaken mostly by the young is that they have a longer period over which they can re-
2,619 citations
"The Nature of Credit Constraints an..." refers methods in this paper
..., the widely used Yoram Ben-Porath (1967) model)....
[...]
TL;DR: In this article, the authors present a framework for understanding changes in the wage structure and overall earnings inequality, emphasizing the role of supply and demand factors and the interaction of market forces and labor market institutions.
Abstract: This chapter presents a framework for understanding changes in the wage structure and overall earnings inequality. The framework emphasizes the role of supply and demand factors and the interaction of market forces and labor market institutions. Recent changes in the US wage structure are analyzed in detail to highlight crucial measurement issues that arise in studying wage structure changes and to illustrate the operation of the supply-demand-institution framework. The roles of skill-biased technological change, globalization forces, changes in demographics and relative skill supplies, industry labor rents, unions, and the minimum wage in the evolution of the US wage structure are examined. Recent wage structure changes are placed in a longer-term historical perspective, and differences and similarities in wage structure changes among OECD nations are assessed. © 1999 Elsevier Science B.V. All rights reserved.
2,272 citations
TL;DR: In this paper, the authors formalize the concepts of self-productivity and complementarity of human capital investments and use them to explain the evidence on skill formation, and provide a theoretical framework for interpreting the evidence from a vast empirical literature, for guiding the next generation of empirical studies, and for formulating policy.
Abstract: This paper presents economic models of child development that capture the essence of recent findings
from the empirical literature on skill formation. The goal of this essay is to provide a theoretical framework
for interpreting the evidence from a vast empirical literature, for guiding the next generation of empirical
studies, and for formulating policy. Central to our analysis is the concept that childhood has more than one
stage. We formalize the concepts of self-productivity and complementarity of human capital investments
and use them to explain the evidence on skill formation. Together, they explain why skill begets skill
through a multiplier process. Skill formation is a life cycle process. It starts in the womb and goes on
throughout life. Families play a role in this process that is far more important than the role of schools.
There are multiple skills and multiple abilities that are important for adult success. Abilities are both
inherited and created, and the traditional debate about nature versus nurture is scientiÞcally obsolete.
Human capital investment exhibits both self-productivity and complementarity. Skill attainment at one
stage of the life cycle raises skill attainment at later stages of the life cycle (self-productivity). Early
investment facilitates the productivity of later investment (complementarity). Early investments are not
productive if they are not followed up by later investments (another aspect of complementarity). This
complementarity explains why there is no equity-efficiency trade-off for early investment. The returns to
investing early in the life cycle are high. Remediation of inadequate early investments is difficult and very
costly as a consequence of both self-productivity and complementarity.
1,585 citations
TL;DR: This article examined the statistical model used to establish the empirical regularity and the intuitive behavioral interpretation often used to rationalize it, and showed that the implicit economic model assumes myopia and that the intuitive interpretive model is identified only by imposing arbitrary distributional assumptions onto the data.
Abstract: This paper examines an empirical regularity found in many societies: that family influences on the probability of transiting from one grade level to the next diminish at higher levels of education. We examine the statistical model used to establish the empirical regularity and the intuitive behavioral interpretation often used to rationalize it. We show that the implicit economic model assumes myopia. The intuitive interpretive model is identified only by imposing arbitrary distributional assumptions onto the data. We produce an alternative choice‐theoretic model with fewer parameters that rationalizes the same data and is not based on arbitrary distributional assumptions.
1,079 citations
"The Nature of Credit Constraints an..." refers background in this paper
...Hansen and Weisbrod (1969) represents an early empirical analysis of educational attainment gaps by family income; although, their primary focus is on the redistributive effects of education subsidies....
[...]
...Hansen and Weisbrod (1969) represents an early empirical analysis of educational attainment gaps by family income; although, their primary focus is on the redistributive effects of education subsidies. Manski and Wise (1983) emphasize borrowing constraints specifically as an explanation for their estimated family income – schooling gaps....
[...]