Improving Equity in Education Increases Economic Growth

Two recently-published studies show that inequality in education is a significant factor affecting economic growth. Both studies find that income inequality limits economic growth because low income families tend to have low education outcomes. The studies recommend policies to improve the education outcomes of disadvantaged students.  Improving the education outcomes of these children would increase workforce skills, productivity, incomes and economic output.

One study was published by the OECD last December. The other study was published in February by the European Expert Network on Economics of Education (EENEE), a think tank sponsored by the European Commission. It was done by economists from the University of Sydney and the London School of Economics.

The studies have important implications for education policy in Australia. Although income and education inequality in Australia is less than in many OECD countries they are significant. In particular, a large proportion of children from low socio-economic backgrounds do not achieve an adequate education and there are large gaps in achievement between rich and poor. Increasing the education outcomes of these children would not only increase their life chances but would also increase economic growth.

The Gonski school funding plan is directed at increasing the school outcomes of disadvantaged students in both public and private schools. The findings of these studies suggest that the refusal of the Federal Government and several state governments,  including the new Victorian Labor Government, to commit to the plan is likely to see education disadvantage continue which, in turn, will restrict future productivity growth and national economic prosperity by denying the opportunity to improve workforce skills. It also denies the opportunity to improve the fiscal balance and reduce long-term expenditures associated with low educational achievement.

The findings further suggest that it is in the interests of the business community to support the full implementation of the Gonski plan. It is about time for business organisations to get on board to support Gonski instead of advocating reduced government expenditure and public services.

OECD study: Trends in Income Inequality and its Impact on Economic Growth

The OECD study shows that the gap between rich and poor in OECD countries is now at its highest level in 30 years and it has significantly restricted economic growth. The evidence strongly points to education as a central factor in how inequality affects growth. Income inequality undermines education opportunities for disadvantaged individuals, lowering social mobility and hampering skills development.  The paper says that policies should focus on increasing the education and skills of people from disadvantaged social backgrounds.

The study shows that the richest 10 per cent of the population in the OECD area earn 9.5 times the income of the poorest 10 per cent. In contrast, this ratio stood at 7:1 in the 1980s and has been rising continuously ever since. However, the rise in overall income inequality is not only about surging top income shares: often, incomes at the bottom grew much slower during the prosperous years and fell during downturns, putting relative (and in some countries, absolute) income poverty on the policy agenda of countries.

The study estimated the consequences of changes in inequality between 1985 and 2005 on cumulative per capita GDP growth over the period 1990-2010. The results show that income inequality has a negative and statistically significant impact on growth. For example, rising inequality was estimated to have reduced cumulative growth in Mexico and New Zealand by 10 percentage points. In the United States, the United Kingdom, Sweden, Finland and Norway, the growth rate would have been more than 20 per cent higher had income disparities not widened.

The analysis also looked at the consequences of inequality at different parts of the income distribution. In particular, it found that the biggest factor behind the impact of inequality on growth is the gap between lower income households and the rest of the population. Inequality between the bottom decile of income distribution and the average income of a country had a greater impact on economic growth than inequality between the top decile and the average income.

The negative effect on growth was not just for the poorest income decile but all of those in the bottom four deciles of the income distribution. These findings imply that policy must not just be about tackling poverty, it also needs to be about addressing lower incomes more generally. Policy makers need to be concerned about how the bottom 40 per cent of the population fares as well as those in poverty.

The study examined the links between inequality and the education and skills of individuals with different socio-economic backgrounds drawing from education data and the recent OECD Adult Skills Survey. It found that that widening income disparities lowers education outcomes of individuals from low socio-economic backgrounds both in terms of the quantity of education attained (e.g. years of schooling), and in terms of its quality (i.e. skill proficiency).

It found that a 6-point increase in the index of income inequality would lower average numeracy scores among low socio-economic background individuals by 6 points. It noted that this is nearly 40 per cent of the gap relative to individuals with medium socio-economic parental backgrounds. Similarly, a 6-point increase in inequality would lower literacy scores by 7 points which is nearly half the gap between low and medium socio-economic parental backgrounds.

The estimates also show that a 6-point increase in inequality is associated with a decrease of almost 0.5 years of schooling by low socio-economic background individuals. This represents more than 50 per cent of the schooling differential with individuals with medium family background. A 6-point increase in inequality would lower the probability of individuals with parents of low educational background being in tertiary education by around 4 percentage points.

These results show that “higher inequality lowers the opportunities of education (and social mobility) of disadvantaged individuals in the society” [p.24]. However, it does not affect those of medium and high socio-economic background individuals in terms of test scores, graduation from tertiary education.

The actual impact on aggregate economic output of lower education and skills arising from increased inequality depends on the relative weight of low socio-economic background individuals in the population of a country. This varies significantly across OECD countries. In 2012, it ranged from over 40 per cent in Portugal, Turkey and Mexico, to around 20 per cent in Italy, Spain and Germany and 10 per cent in Australia, France and the US. In Nordic countries, the UK and Canada it was at, or below, 5 per cent.

These figures mean a larger impact of inequality on skills developments in the former than in the latter set of countries. For example, the 6-point fall in numeracy scores of low socio-economic translates, in the long run, in a lower proficiency of the working age population of almost 3 points in Portugal or Turkey compared to around 1.5 points in Italy and Spain, and less than 1 point in other countries.

The lower workforce proficiency would in turn reduce aggregate economic output. For example, the study estimated that the inequality-induced fall in Portugal and Turkey would reduce average annual growth by 0.12 percentage points and 0.06 per cent in Italy and Spain. The reduction would be less in countries such as Australia, but over the long term even very small changes in annual economic growth can have a significant impact on aggregate output and incomes.

The evidence that the trend increases in income inequality have reduced growth in many OECD countries has significant policy consequences. Policies that help to limit or reverse inequality may not only make societies less unfair, but also wealthier.

The study notes that redistribution policies via taxes and transfers are a key tool to ensure the benefits of growth are more broadly distributed. However, it says, it is also important to promote equality of opportunity in access to and quality of education for low income families. It says that policy needs to confront the historical legacy of under-investment by low income groups in formal education.

The evidence strongly suggests that high inequality hinders the ability of individuals from low economic background to invest in their human capital, both in terms of the level of education but even more importantly in terms of the quality of education. This would imply that education policy should focus on improving access by low-income groups, whose educational outcomes are not only worse on average from those of middle and top income groups, but also more sensitive to increases in inequality. [p.29]

European Commission study: The Cost of Low Educational Achievement in the European Union

The European Commission study also found that improving equity in education increases economic growth. It says that poorer parents are unable to invest adequately in their children’s education and this leads to lower levels of education in the next generation and therefore lower growth.

…to achieve higher economic growth, it is not enough to increase average levels of education and skills (or concentrate on expanding tertiary education). It is also necessary to reduce educational inequality and this means a particular focus on disadvantaged groups.

The main expected return to higher education and skills is the increased productivity that is made possible. Although socio-economic background is a strong predictor of educational attainment, the evidence reviewed here suggests that if economically disadvantaged individuals did acquire education and skills to equal their more advantaged peers, they would be (at least) similarly rewarded for their productivity – and thus contribute similarly to economic growth. [p.36]

The study shows that many empirical studies have found that income inequality, which is closely connected to educational inequality, limits growth. A number of studies, often based on cross-country regressions of GDP growth on income inequality, have found a negative correlation between the average rate of growth and a number of measures of inequality. The magnitude of the effect is consistent across studies: a one-standard deviation decrease in inequality raises the annual growth rate of GDP per capita by 0.5 to 0.8 percentage points. This is a significant increase.

The study notes that while the literature on educational inequality and economic growth is less well developed there are clear links and interactions between the two. Several studies have found that inequality in education has a negative relationship with economic growth.

The explanation for this is that low income households under-invest in education because they do not have access to adequate resources. There is a clear relationship between income inequality and low education and skills. Low income households simply do not have the resources to devote as much to the education of their children as high income families.  

…parents from higher socio-economic groups are better able to invest in human capital than those from lower socio-economic groups. This may happen in many different ways from being able to supplement public education with other educational resources (e.g. books in the home; private tuition) to being able to afford to live near high quality schools. [p.9]

The study illustrates the relationship between growth and inequality in skills by plotting the average annual rate of growth of real GDP per capita in 1980-2000 against the within-country gap between people at the 90th percentile and 10th percentile of the literacy score in the OECD skills survey 2013. It shows a negative relationship between educational inequality and economic growth that has been found in many academic studies

The study also plots average annual rate of growth of real GDP per capita against the 10th percentile of the literacy score. This shows that economic growth is higher in countries where the 10th percentile of the population has a higher average literacy score.

The study reviews empirical evidence showing that socio-economic background is a strong predictor of educational attainment and a manifestation of inequality. The research evidence shows that inequality in educational outcomes is pervasive across the lifecycle and at all stages of education. Even before children start school, there is a large gap in cognitive ability between those from high and low socio-economic backgrounds.

Inequality of educational attainment is evident throughout schooling and across all countries. This has been clear in all the PISA surveys of students’ attainment at the age of 15. The difference in educational achievement between high and low socio-economic groups at age 15 (PISA) is equivalent to between one and 2.5 years of schooling. Further evidence on differences by socio-economic background can be found for adult skills.

The study finds evidence of high returns to increased education and skills for low socio-economic families across countries. The main return is the increased productivity and higher earnings. Studies have found significant wage returns to staying on in post-compulsory schooling after age 16 and completing any form of higher education. The study concludes:

Inequality in education is clearly important for macroeconomic growth and for individuals’ life-chances.

The study also reviews policies that might close education inequalities. It identifies two approaches to reducing educational inequality. The first is to pursue redistributive policies and remove institutional mechanisms that discriminate against low income people (for example, school admission rules). The second is to use the most effective educational policies to directly improve the achievements of disadvantaged children.

The latter include targeting increased resources for disadvantaged students. The evidence is that increases of resources in schooling are usually more effective for disadvantaged schools and students.

If disadvantaged students are genuinely more responsive to resource-based interventions, then targeting resources at these pupils will lead to higher average achievement as well as more equitable outcomes. [p.32]

Provision of high quality pre-school education has been shown to be highly effective for disadvantaged students. Many studies have shown positive effects of pre-school on educational outcomes and the impacts are often found to be larger for more disadvantaged groups. However, the quality of programme must be high to achieve strong effects.

The study also suggests that selecting students for different courses at school should be postponed to a later age and that measures to give schools autonomy such that they can come up with a creative combination of strategies to improve outcomes for the most disadvantaged should be supported.

The study concludes that the important priority is that:

Policies should be developed with the needs of the most disadvantaged students in mind (and not only the average student) because this is the way to both reduce inequality and achieve economic growth. [p.36]

Trevor Cobbold

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