Chapter VI

The Role of Government in Education

Formal schooling is today paid for and almost entirely administered by government bodies or non-profit institutions. This situation has developed gradually and is now taken so much for granted that little explicit attention is any longer directed to the reasons for the special treatment of schooling even in countries that are predominantly free enterprise in organization and philosophy. The result has been an indiscriminate extension of governmental responsibility.

In terms of the principles developed in chapter ii, governmental intervention into education can be rationalized on two grounds. The first is the existence of substantial "neighborhood effects," i.e., circumstances under which the action of one individual imposes significant costs on other individuals for which it is not feasible to make him compensate them, or yields significant gains to other individuals for which it is not feasible to make them compensate him -- circumstances that make voluntary exchange impossible. The second is the paternalistic concern for children and other irresponsible individuals. Neighborhood effects and paternalism have very different implications for (i) general education for citizenship, and (2) specialized vocational education. The grounds for governmental intervention are widely different in these two areas and justify very different types of action.

One further preliminary remark: it is important to distinguish between "schooling" and "education." Not all schooling is education nor all education, schooling. The proper subject of concern is education. The activities of government are mostly limited to schooling.

A stable and democratic society is impossible without a minimum degree of literacy and knowledge on the part of most citizens and without widespread acceptance of some common set of values. Education can contribute to both. In consequence, the gain from the education of a child accrues not only to the child or to his parents but also to other members of the society. The education of my child contributes to your welfare by promoting a stable and, democratic society. It is not feasible to identify the particular individuals (or families) benefited and so to charge for the services rendered. There is therefore a significant "neighborhood effect."

What kind of governmental action is justified by this particular neighborhood effect? The most obvious is to require that each child receive a minimum amount of schooling of a specified kind. Such a requirement could be imposed upon the parents without further government action, just as owners of buildings, and frequently of automobiles, are required to adhere to specified standards to protect the safety of others. There is, however, a difference between the two cases. Individuals who cannot pay the costs of meeting the standards required for buildings or automobiles can generally divest themselves of the property by selling it. The requirement can thus generally be enforced without government subsidy. The separation of a child from a parent who cannot pay for the minimum required schooling is clearly inconsistent with our reliance on the family as the basic social unit and our belief in the freedom of the individual. Moreover, it would be very likely to detract from his education for citizenship in a free society.

If the financial burden imposed by such a schooling requirement could readily be met by the great bulk of the families in a community, it might still be both feasible and desirable to require the parents to meet the cost directly. Extreme cases could be handled by special subsidy provisions for needy families. There are many areas in the United States today where these conditions are satisfied. In these areas, it would be highly desirable to impose the costs directly on the parents. This would eliminate the governmental machinery now required to collect tax funds from all residents during the whole of their lives and then pay it back mostly to the same people during the period when their children are in school. It would reduce the likelihood that governments would also administer schools, a matter discussed further below. It would increase the likelihood that the subsidy component of school expenditures would decline as the need for such subsidies declined with increasing general levels of income. If, as now, the government pays for all or most schooling, a rise in income simply leads to a still larger circular flow of funds through the tax mechanism, and an expansion in the role of die government. Finally, but by no means least, imposing the costs on the parents would tend to equalize the social and private costs of having children and so promote a better distribution of families by size.1

Differences among families in resources and in number of children, plus the imposition of a standard of schooling involving very sizable costs, make such a policy hardly feasible in many parts of the United States. Both in such areas, and in areas where such a policy would be feasible, government has instead assumed the financial costs of providing schooling. It has paid, not only for the minimum amount of schooling required of all, but also for additional schooling at higher levels available to youngsters but not required of them. One argument for both steps is the "neighborhood effects" discussed above. The costs are paid because this is the only feasible means of enforcing the required minimum. Additional schooling is financed because other people benefit from the schooling of those of greater ability and interest, since this is a way of providing better social and political leadership. The gain from these measures must be balanced against the costs, and there can be much honest difference of judgment about how extensive a subsidy is justified. Most of us, however, would probably conclude that the gains are sufficiently important to justify some government subsidy.

These grounds justify government subsidy of only certain kinds of schooling. To anticipate, they do not justify subsidizing purely vocational training which increases the economic productivity of the student but does not train him for either citizenship or leadership. It is extremely difficult to draw a sharp line between the two types of schooling. Most general schooling adds to the economic value of the student -- indeed it is only in modern times and in a few countries that literacy has ceased to have a marketable value. And much vocational training broadens the student's outlook. Yet the distinction is meaningful. Subsidizing the training of veterinarians, beauticians, dentists, and a host of other specialists, as is widely done in the United States in governmentally supported educational institutions, cannot be justified on the same grounds as subsidizing elementary schools or, at a higher level, liberal arts colleges, whether it can be justified on quite different grounds will be discussed later in this chapter.

The qualitative argument from "neighborhood effects" does not, of course, determine the specific kinds of schooling that should be subsidized or by how much they should be subsidized. The social gain presumably is greatest for the lowest levels of schooling, where there is the nearest approach to unanimity about content, and declines continuously as the level of schooling rises. Even this statement cannot be taken completely for granted. Many governments subsidized universities long before they subsidized lower schools. What forms of education have the greatest social advantage and how much of the community's limited resources should be spent on them must be decided by the judgment of the community expressed through its accepted political channels. The aim of this analysis is not to decide these questions for the community but rather to clarify the issues involved in making a choice, in particular whether it is appropriate to make the choice on a communal rather than individual basis.

As we have seen, both the imposition of a minimum required level of schooling and the financing of this schooling by the state can be justified by the "neighborhood effects" of schooling. A third step, namely the actual administration of educational institutions by the government, the "nationalization," as it were, of the bulk of the "education industry" is much more difficult to justify on these, or, so far as I can see, any other, grounds. The desirability of such nationalization has seldom been faced explicitly. Governments have, in the main, financed schooling by paying directly the costs of running educational institutions. Thus this step seemed required by the decision to subsidize schooling. Yet the two steps could readily be separated. Governments could require a minimum level of schooling financed by giving parents vouchers redeemable for a specified maximum sum per child per per year spent on "approved" educational services. Parents would then be free to spend this sum and any additional sum they themselves provided on purchasing educational services from an "approved" institution of their own choice. The educational services could be rendered by private enterprises operated for profit, or by non-profit institutions. The role of the government would be limited to insuring that the schools met certain minimum standards, such as the inclusion of a minimum common content in their programs, much as it now inspects restaurants to insure that they maintain minimum sanitary standards. An excellent example of a program of this sort is the United States educational program for veterans after World War II. Each veteran who qualified was given a maximum sum per year that could be spent at any institution of his choice, provided it met certain minimum standards. A more limited example is the provision in Britain whereby local authorities pay the fees of some students attending non-state schools. Another is the arrangement in France whereby the state pays part of the costs for students attending non-state schools.

One argument for nationalizing schools resting on a "neighborhood effect" is that it might otherwise be impossible to provide the common core of values deemed requisite for social stability. The imposition of minimum standards on privately conducted schools, as suggested above, might not be enough to achieve this result. The issue can be illustrated concretely in terms of schools run by different religious groups. Such schools, it can be argued, will instil sets of values that are inconsistent with one another and with those instilled in non-sectarian schools; in this way, they convert education into a divisive rather than a unifying force.

Carried to its extreme, this argument would call not only for governmentally administered schools, but also for compulsory attendance at such schools. Existing arrangements in the United States and most other Western countries are a halfway house. Governmentally administered schools are available but not compulsory. However, the link between the financing of schooling and its administration places other schools at a disadvantage: they get the benefit of little or none of the governmental funds spent on schooling -- a situation that has been the source of much political dispute, particularly in France and at present in the United States. The elimination of this disadvantage might, it is feared, greatly strengthen the parochial schools and so render the problem of achieving a common core of values even more difficult.

Persuasive as this argument is, it is by no means clear that it is valid or that denationalizing schooling would have the effects suggested. On grounds of principle, it conflicts with the preservation of freedom itself. Drawing a line between providing for the common social values required for a stable society, on the one hand, and indoctrination inhibiting freedom of thought and belief, on the other is another of those vague boundaries that is easier to mention than to define.

In terms of effects, denationalizing schooling would widen the range of choice available to parents. If, as at present, parents can send their children to public schools without special payment, very few can or will send them to other schools unless they too are subsidized. Parochial schools are at a disadvantage in not getting any of the public funds devoted to schooling, but they have the compensating advantage of being run by institutions that are willing to subsidize them and can raise funds to do so. There are few other sources of subsidies for private schools. If present public expenditures on schooling were made available to parents regardless of where they send their children, a wide variety of schools would spring up to meet the demand. Parents could express their views about schools directly by withdrawing their children from one school and sending them to another, to a much greater extent than is now possible. In general, they can now take this step only at considerable cost -- by sending their children to a private school or by changing their residence. For the rest, they can express their views only through cumbrous political channels. Perhaps a somewhat greater degree of freedom to choose schools could be made available in a governmentally administered system, but it would be difficult to carry this freedom very far in view of the obligation to provide every child with a place. Here, as in other fields, competitive enterprise is likely to be far more efficient in meeting consumer demand than either nationalized enterprises or enterprises run to serve other purposes. The final result may therefore be that parochial schools would decline rather than grow in importance.

A related factor working in the same direction is the understandable reluctance of parents who send their children to parochial schools to increase taxes to finance higher public school expenditures. As a result, those areas where parochial schools are important have great difficulty raising funds for public schools. Insofar as quality is related to expenditure, as to some extent it undoubtedly is, public schools tend to be of lower quality in such areas and hence parochial schools are relatively more attractive.

Another special case of the argument that governmentally conducted schools are necessary for education to be a unifying force is that private schools would tend to exacerbate class distinctions. Given greater freedom about where to send their children, parents of a kind would flock together and so prevent a healthy intermingling of children from decidedly different backgrounds. Whether or not this argument is valid in principle, it is not at all clear that the stated results would follow. Under present arrangements, stratification of residential areas effectively restricts the intermingling of children from decidedly different backgrounds. In addition, parents are not now prevented from sending their children to private schools. Only a highly limited class can or does do so, parochial schools aside, thus producing further stratification.

Indeed, this argument seems to me to point in almost the diametrically opposite direction -- toward the denationalizing of schools. Ask yourself in what respect the inhabitant of a low income neighborhood, let alone of a Negro neighborhood in a large city, is most disadvantaged. If he attaches enough importance to, say, a new automobile, he can, by dint of saving, accumulate enough money to buy the same car as a resident of a high-income suburb. To do so, he need not move to that suburb. On the contrary, he can get the money partly by economizing on his living quarters. And this goes equally for clothes, or furniture, or books, or what not. But let a poor family in a slum have a gifted child and let it set such high value on his or her schooling that it is willing to scrimp and save for the purpose. Unless it can get special treatment, or scholarship assistance, at one of the very few private schools, the family is in a very difficult position. The "good" public schools are in the high income neighborhoods. The family might be willing to spend something in addition to what it pays in taxes to get better schooling for its child. But it can hardly afford simultaneously to move to the expensive neighborhood.

Our views in these respects are, I believe, still dominated by the small town which had but one school for the poor and rich residents alike. Under such circumstances, public schools may well have equalized opportunities. With the growth of urban and suburban areas, the situation has changed drastically. Our present school system, far from equalizing opportunity, very likely does the opposite. It makes it all the harder for the exceptional few -- and it is they who are the hope of the future -- to rise above the poverty of their initial state.

Another argument for nationalizing schooling is "technical monopoly." In small communities and rural areas, the number of children may be too small to justify more than one school of reasonable size, so that competition cannot be relied on to protect the interests of parents and children. As in other cases of technical monopoly, the alternatives are unrestricted private monopoly, state-controlled private monopoly, and public operation -- a choice among evils. This argument, though clearly valid and significant, has been greatly weakened in recent decades by improvements in transportation and increasing concentration of the population in urban communities.

The arrangement that perhaps comes closest to being justified by these considerations -- at least for primary and secondary education -- is a combination of public and private schools. Parents who choose to send their children to private schools would be paid a sum equal to the estimated cost of educating a child in a public school, provided that at least this sum was spent on education in an approved school. This arrangement would meet the valid features of the "technical monopoly" argument. It would meet the just complaints of parents that if they send their children to private non-subsidized schools they are required to pay twice for education -- once in the form of general taxes and once directly. It would permit competition to develop. The development and improvement of all schools would thus be stimulated. The injection of competition would do much to promote a healthy variety of schools. It would do much, also, to introduce flexibility into school systems. Not least of its benefits would be to make the salaries of school teachers responsive to market forces. It would thereby give public authorities an independent standard against which to judge, salary scales and promote a more rapid adjustment to changes in conditions of demand and supply.

It is widely urged that the great need in schooling is more money to build more facilities and to pay higher salaries to teachers in order to attract better teachers. This seems a false diagnosis. The amount of money spent on schooling has been rising at an extraordinarily high rate, far faster than our total income. Teachers' salaries have been rising far faster than returns in comparable occupations. The problem is not primarily that we are spending too little money -- though we may be -- but that we are getting so little per dollar spent. Perhaps the amounts of money spent on magnificent structures and luxurious grounds at many schools are properly classified as expenditures on schooling. It is hard to accept them equally as expenditures on education. And this is equally clear with respect to courses in basket weaving, social dancing, and the numerous other special subjects that do such credit to the ingenuity of educators. I hasten to add that there can be no conceivable objection to parents' spending their own money on such frills if they wish. That is their business. The objection is to using money raised by taxation imposed on parents and non-parents alike for such purposes. Wherein are the "neighborhood effects" that justify such use of tax money?

A major reason for this kind of use of public money is the present system of combining the administration of schools with^ their financing. The parent who would prefer to see money, used for better teachers and texts rather than coaches and corridors has no way of expressing this preference except by persuading a majority to change the mixture for all. This is a special case of the general principle that a market permits each to satisfy his own taste -- effective proportional 'representation; whereas the political process imposes conformity. In addition, the parent who would like to spend some extra money on his child's education is greatly limited. He cannot add something to the amount now being spent to school his child and transfer his child to a correspondingly more costly school. If he does transfer his child, he must pay the whole cost and not simply the additional cost. He can only spend extra money easily on extra-curricular activities -- dancing lessons, music lessons, etc. Since the private outlets for spending more money on schooling are so blocked, the pressure to spend more on the education of children manifests itself in ever higher public expenditures on items ever more tenuously related to the basic justification for governmental intervention into schooling.

As this analysis implies, the adoption of the suggested arrangements might well mean smaller governmental expenditures on schooling, yet higher total expenditures. It would enable parents to buy what they want more efficiently and thereby lead them to spend more than they now do directly and indirectly through taxation. It would prevent parents from being frustrated in spending more money on schooling by both the present need for conformity in how the money is spent and by the understandable reluctance on the part of persons not currently having children in school, and especially those who will not in the future have them in school, to impose higher taxes on themselves for purposes often far removed from education as they understand the term.²

With respect to teachers' salaries, the major problem is not*\ that they are too low on the average -- they may well he too 7 high on the average -- but that they are too uniform and rigid. Poor teachers are grossly overpaid and good teachers grossly I underpaid. Salary schedules tend to be uniform and determined far more by seniority, degrees received, and teaching , certificates acquired than by merit. This, too, is largely a result of the present system of governmental administration of schools and becomes more serious as the unit over which governmental control is exercised becomes larger. Indeed, this very fact is a major reason why professional educational organizations so strongly favor broadening the unit -- from the local school district to the state, from the state to the federal government. In any bureaucratic, essentially civil-service organization, I standard salary scales are almost inevitable: it is next to impossible to simulate competition capable of providing wide differences in salaries according to merit. The educators, which means the teachers themselves, come to exercise primary control. The parent or local community comes to exercise little control. In any area, whether it be carpentry or plumbing or teaching, the majority of workers favor standard salary scales and oppose merit differentials, for the obvious reason that the specially talented are always few. This is a special case of the general tendency for people to seek to collude to fix prices, whether through unions or industrial monopolies. But collusive agreements will generally be destroyed by competition unless the government enforces them, or at least renders them considerable support.

If one were to seek deliberately to devise a system of recruiting and paying teachers calculated to repel the imaginative and daring and self-confident and to attract the dull and mediocre and uninspiring, he could hardly do better than imitate the system of requiring teaching certificates and enforcing standard salary structures that has developed in the larger city and state-wide systems. It is perhaps surprising that the level of ability in elementary and secondary school teaching is as high as it is under these circumstances. The alternative system would resolve these problems and permit competition to be effective in rewarding merit and attracting ability to teaching.

Why has governmental intervention in schooling in the United States developed along the lines it has? I do not have the detailed knowledge of educational history that would be required to answer this question definitively. A few conjectures may nonetheless be useful to suggest the kinds of considerations that may alter the appropriate social policy. I am by no means sure that the arrangements I now propose would in fact have been desirable a century ago. Before the extensive growth in transportation, the "technical monopoly" argument was much stronger. Equally important, the major problem in the United States in the nineteenth and early twentieth century was not to promote diversity but to create the core of common values essential to a stable society. Great streams of immigrants were flooding the United States from all over the world, speaking different languages and observing diverse customs. The "melting pot" had to introduce some measure of conformity and loyalty to common values. The public school had an important function in this task, not least by imposing English as a common language. Under the alternative voucher scheme, the minimum standards imposed on schools to qualify for approval could have included the use of English. But it might well have been more difficult to insure that this requirement was imposed and satisfied in a private school system. I do not mean to conclude that the public school system was definitely preferable to the alternative, but only that a far stronger case could have been made for it then than now. Our problem today is not to enforce conformity; it is rather that we are threatened with an excess of conformity. Our problem is to foster diversity, and the alternative would do this far more effectively than a nationalized school system.

Another factor that may have been important a century ago was the combination of the general disrepute of cash grants to individuals ("handouts"), with the absence of an efficient administrative machinery to handle the distribution of vouchers and check their use. Such machinery is a phenomenon of modern times that has come to full flower with the enormous extension of personal taxation and of social security programs. In its absence, the administration of schools may have been regarded as the only possible way to finance education.

As some of the examples cited above (England and France) suggest, some features of the proposed arrangements are present in existing educational systems. And there has been strong and, I believe, increasing pressure for arrangements of this kind in most Western countries. This is perhaps partly explained by modern developments in governmental administrative machinery that facilitate such arrangements.

Although many administrative problems would arise in changing over from the present to the proposed system and in its administration, these seem neither insoluble nor unique. As in the denationalization of other activities, existing premises and equipment could be sold to private enterprises that wanted to enter the field. Thus, there would be no waste of capital in the transition. Since governmental units, at least in some areas, would continue to administer schools, the transition would be gradual and easy. The local administration of schooling in the United States and some other countries would similarly facilitate the transition, since it would encourage experimentation on a small scale. Difficulties would doubtless arise in determining eligibility for grants from a particular governmental unit, but this is identical with the existing problem of determining which unit is obligated to provide schooling facilities for a particular child. Differences in size of grants would make one area more attractive than another just as differences in the quality of schooling now have the same effect. The only additional complication is a possibly greater opportunity for abuse because of the greater freedom to decide where to educate children. Supposed difficulty of administration is a standard defense of the status quo against any proposed change; in this particular case, it is an even weaker defense than usual because existing arrangements must master not only the major problems raised by the proposed arrangements but also the additional problems raised by the administration of schools as a governmental function.

The preceding discussion is concerned mostly with primary and secondary schooling. For higher schooling, the case for nationalization on grounds either of neighborhood effects or of technical monopoly is even weaker. For the lowest levels of schooling, there is considerable agreement, approximating unanimity, on the appropriate content of an educational program for citizens of a democracy -- the three R's cover most of the ground. At successively higher levels, there is less and less agreement. Surely, well below the level of the American college, there is insufficient agreement to justify imposing the views of a majority, much less a plurality, on all. The lack of agreement may, indeed, extend so far as to cast doubts on the appropriateness even of subsidizing schooling at this level; it surely goes far enough to undermine any case for nationalization on the grounds of providing a common core of values. There can hardly be any question of "technical monopoly" at this level, in view of the distances that individuals can and do go to attend institutions of higher learning.

Governmental institutions play a smaller role in the United States in higher schooling than at primary and secondary levels. Yet they grew greatly in importance, certainly until the 1920's, and now account for more than half of the students attending colleges and universities.3 One of the main reasons for their growth was their relative cheapness; most state and municipal colleges and universities charge much lower tuition fees than private universities can afford to charge. Private universities have in consequence had serious financial problems, and have quite properly complained of "unfair" competition. They have wanted to maintain their independence from government, yet at the same time have felt driven by financial pressure to seek government aid.

The preceding analysis suggests the lines along which a satisfactory solution can be sought. Public expenditures on higher schooling can be justified as a means of training youngsters for citizenship and for community leadership -- though I hasten to add that the large fraction of current expenditure that goes for strictly vocational training cannot be justified in this way, or indeed, as we shall see, in any other. Restricting the subsidy to schooling obtained at a state-administered institution cannot be justified on any grounds. Any subsidy should be granted to individuals to be spent at institutions of their own choosing, provided only that the schooling is of a kind that it is desired to subsidize. Any government schools that are retained should charge fees covering educational costs and so compete on an equal level with non-government-supported schools.4 The resulting system would follow in its broad outlines the arrangements adopted in the United States after World War II for financing the education of veterans, except that the funds would presumably come from the states rather than the federal government.

The adoption of such arrangements would make for more effective competition among various types of schools and for a more efficient utilization of their resources. It would eliminate the pressure for direct government assistance to private colleges and universities and thus preserve their full independence and diversity at the same time as it enabled them to grow relative to state institutions. It might also have the ancillary advantage of causing scrutiny of the purposes for which subsidies are granted. The subsidization of institutions rather than of people has led to an indiscriminate subsidization of all activities appropriate for such institutions, rather than of the activities appropriate for the state to subsidize. Even cursory examination suggests that while the two classes of activities overlap, they are far from identical.

The equity argument for the alternative arrangement is particularly clear at college and university levels because of the existence of a large number and variety of private schools. The state of Ohio, for example, says to its citizens: "If you have a youngster who wants to go to college, we shall automatically grant him or her a sizable four-year scholarship, provided that he or she can satisfy rather minimal education requirements, and provided further that he or she is smart enough to choose to go to the University of Ohio. If your youngster wants to go, or you want him or her to go, to Oberlin College, or Western Reserve University, let alone to Yale, Harvard, Northwestern, Beloit, or the University of Chicago, not a penny for him." How can such a program be justified? Would it not be far more equitable, and promote a higher standard of scholarship, to devote such money as the state of Ohio wished to spend on higher education to scholarships tenable at any college or university and to require the University of Ohio to compete on equal terms with other colleges and universities ?5

Vocational and professional schooling has no neighborhood effects of the kind attributed above to general education. It is a form of investment in human capital precisely analogous to investment in machinery, buildings, or other forms of non-human capital. Its function is to raise the economic productivity of the human being. If it does so, the individual is rewarded in a free enterprise society by receiving a higher return for his services than he would otherwise be able to command.6 This difference in return is the economic incentive to invest capital whether in the form of a machine or a human being. In both cases, extra returns must be balanced against the costs of acquiring them. For vocational schooling, the major costs are the income foregone during the period of training, interest lost by postponing the beginning of the earning period, and special expenses of acquiring the training such as tuition fees and expenditures on books and equipment. For physical capital, the major costs are the expense of constructing the capital equipment and the interest foregone during construction. In both cases, an individual presumably regards the investment as desirable if the extra returns, as he views them, exceed the extra costs, as he views them.7 In both cases, if the individual undertakes the investment and if the state neither subsidizes the investment nor taxes the return, the individual (or his parents, sponsor, or benefactor) in general bears all the extra costs and receives all the extra returns: there are no obvious unborne costs or unappropriable returns that tend to make private incentives diverge systematically from those that are socially appropriate.

If capital were as readily available for investment in human beings as for investment in physical assets, whether through the market or through direct investment by the individuals concerned, or their parents or benefactors, the rate of return on capital would tend to be roughly equal in the two fields. If it were higher on non-human capital, parents would have an incentive to buy such capital for their children instead of investing a corresponding sum in vocational training, and conversely. In fact, however, there is considerable empirical evidence that the rate of return on investment in training is very much higher than the rate of return on investment in physical capital. This difference suggests the existence of underinvestment in human capital.⁸

This underinvestment in human capital presumably reflects an imperfection in the capital market. Investment in human beings cannot be financed on the same terms or with the same ease as investment in physical capital. It is easy to see why. If a fixed money loan is made to finance investment in physical capital, the lender can get some security for his loan in the form of a mortgage or residual claim to the physical asset itself, and he can count on realizing at least part of his investment in case of default by selling the physical asset. If he makes a comparable loan to increase the earning power of a human being, he clearly cannot get any comparable security. In a non-slave state, the individual embodying the investment cannot be bought and sold. Even if he could, the security would not be comparable. The productivity of the physical capital does not in general depend on the co-operativeness of the original borrower. The productivity of the human capital quite obviously does. A loan to finance the training of an individual who has no security to offer other than his future earnings is therefore a much less attractive proposition than a loan to finance the erection of a building: the security is less, and the cost of subsequent collection of interest and principal is very much greater.

A further complication is introduced by the inappropriateness of fixed money loans to finance investment in training. Such an investment necessarily involves much risk. The average expected return may be high, but there is wide variation about the average. Death or physical incapacity is one obvious source of variation but this is probably much less important than differences in ability, energy, and good fortune. Consequently if fixed money loans were made, and were secured only by expected future earnings, a considerable fraction would never be repaid. In order to make such loans attractive to lenders, the nominal interest rate charged on all loans would have to be sufficiently high to compensate for the capital losses on the defaulted loans. The high nominal interest rate would both conflict with usury laws and make the loans unattractive to borrowers.9 The device adopted to meet the corresponding problem for other risky investments is equity investment plus limited liability on tie part of the shareholders. The counterpart for education would be to "buy" a share in an individual's earning prospects; to advance him the funds needed to finance his training on condition that he agree to pay the lender a specified fraction of his future earnings. In this way, a lender would get back more than his initial investment from relatively successful individuals, which would compensate for the failure to recoup his original investment from the unsuccessful.

There seems no legal obstacle to private contracts of this kind, even though they are economically equivalent to the purchase of a share in an individual's earning capacity and thus to partial slavery. One reason why such contracts have not become common, despite their potential profitability to both lender and borrower, is presumably the high costs of administering them, given the freedom of individuals to move from one place to another, the need for getting accurate income statements, and the long period over which the contracts would run. These costs would presumably be particularly high for investment on a small scale with a wide geographical spread of the individuals financed. Such costs may well be the primary reason that this type of investment has never developed under private auspices.

It seems highly likely, however, that a major role has also been played by the cumulative effect of the novelty of the idea, the reluctance to think of investment in human beings as strictly comparable to investment in physical assets, the resultant likelihood of irrational public condemnation of such contracts, even if voluntarily entered into, and legal and conventional limitations on the kind of investments that may be made by the financial intermediaries that would be best suited to engage in such investments, namely, life insurance companies. The potential gains, particularly to early entrants, are so great that it would be worth incurring extremely heavy administrative costs.10

Whatever the reason, an imperfection of the market has led to underinvestment in human capital. Government intervention might therefore be rationalized on grounds both of "technical monopoly," insofar as the obstacle to the development of such investment has been administrative costs, and of improving the operation of the market, insofar as it has been simply market frictions and rigidities.

If government does intervene, how should it do so? One obvious form of intervention, and the only form that has so far been taken, is outright government subsidy of vocational or professional schooling financed out of general revenues. This form seems clearly inappropriate. Investment should be carried to the point at which the extra return repays the investment and yields the market rate of interest on it. If the investment is in a human being, the extra return takes the form of a higher payment for the individual's services than he could otherwise command. In a private market economy, the individual would get this return as his personal income. If the investment were subsidized, he would have borne none of the costs. In consequence, if subsidies were given to all who wished to get the training, and could meet minimum quality standards, there would tend to be overinvestment in human beings, since individuals would have an incentive to get the training so long as it yielded any extra return over private costs, even if the return were insufficient to repay the capital invested, let alone yield any interest on it. To avoid such overinvestment, government would have to restrict the subsidies. Even apart from the difficulty of calculating the "correct" amount of investment, this would involve rationing in some essentially arbitrary way the limited amount of investment among more claimants than could be financed. Those fortunate enough to get their training subsidized would receive all the returns from the investment whereas the costs would be borne by the taxpayers in general -- an entirely arbitrary and almost surely perverse redistribution of income.

The desideratum is not to redistribute income but to make capital available at comparable terms for human and physical investment. Individuals should bear the costs of investment in themselves and receive the rewards. They should not be prevented by market imperfections from making the investment when they are willing to bear the costs. One way to achieve this result is for government to engage in equity investment in human beings. A governmental body could offer to finance or help finance the training of any individual who could meet minimum quality standards. It would make available a limited sum per year for a specified number of years, provided the funds were spent on securing training at a recognized institution. The individual in return would agree to pay to the government in each future year a specified percentage of his earnings in excess of a specified sum for each $1,000 that he received from the government. This payment could easily be combined with payment of income tax and so involve a minimum of additional administrative expense. The base sum should be set equal to estimated average earnings without the specialized training; the fraction of earnings paid should be calculated so as to make the whole project self-financing. In this way, the individuals who received the training would in effect bear the whole cost. The amount invested could then be determined by individual choice. Provided this was the only way in which government financed vocational or professional training, and provided the calculated earnings reflected all relevant returns and costs, the free choice of individuals would tend to produce the optimum amount of investment.

The second proviso is unfortunately not likely to be fully satisfied because of the impossibility of including non-pecuniary returns mentioned above. In practice, therefore, investment under the plan would still be somewhat too small and would not be distributed in the optimum manner.11

For several reasons, it would be preferable for private financial institutions and non-profit institutions such as foundations and universities to develop this plan. Because of the difficulties involved in estimating the base earnings and the fraction of earnings in excess of the base to be paid to the government, there is great danger that the scheme would turn into a political football. Information on existing earnings in various occupations would provide only a rough approximation to the values that would render the project self-financing. In addition, the base earnings and the fraction should vary from individual to individual in accordance with any differences in expected earning capacity that can be predicted in advance, just as life insurance premiums vary among groups that have different life expectancy.

Insofar as administrative expense is the obstacle to the development of such a plan on a private basis, the appropriate unit of government to make funds available is the federal government rather than smaller units. Any one state would have the same costs as an insurance company, say, in keeping track of the people whom it had financed. These would be minimized though not completely eliminated for the federal government. An individual who migrated to another country, for example, might still be legally or morally obligated to pay the agreed-on share of his earnings, yet it might be difficult and expensive to enforce the obligation. Highly successful people might therefore have an incentive to migrate. A similar problem arises, of course, under the income tax, and to a very much greater extent. This and other administrative problems of conducting the scheme on a federal level, while doubtless troublesome in detail, do not seem serious. The serious problem is die political one already mentioned: how to prevent the scheme from becoming a political football and in the process being converted from a self-financing project to a means of subsidizing vocational education.

But if the danger is real, so is die opportunity. Existing imperfections in die capital market tend to restrict the more expensive vocational and professional training to individuals whose parents or benefactors can finance the training required. They make such individuals a "non-competing" group sheltered from competition by the unavailability of die necessary capital to many able individuals. The result is to perpetuate inequalities in wealth and status. The development of arrangements such as those outlined above would make capital more widely available and would thereby do much to make equality of opportunity a reality, to diminish inequalities of income and wealth, and to promote the full use of our human resources. And it would do so not by impeding competition, destroying incentive, and dealing with symptoms, as would result from the outright redistribution of income, but by strengthening competition, making incentives effective, and eliminating the causes of inequality.

1 It is by no means so fantastic as may appear that such a step would noticeably affect the size of families. For example, one explanation of the lower birth rate among higher than among lower socio-economic groups may well be that children are relatively more expensive to the former, thanks in considerable measure to the higher standards of schooling they maintain, the costs of which they bear.

2 A striking example of the same effect in another field is the British National Health Service. In a careful and penetrating study, D. S. Lees establishes rather conclusively that, "Far from being extravagant, expenditure on NHS has been less than consumers would probably have chosen to spend in a free market. The record of hospital building in particular has been deplorable." "Health Through Choice," Hobart Paper 14 (London: Institute of Economic Affairs, 1961), p. 58.

3 See George J. Stigler, Employment and Compensation in Education ("Occasional Paper" No. 33, [New York: National Bureau of Economic Research, 1950]), p. 33.

4 I am abstracting from expenditures on basic research. I have interpreted schooling narrowly so as to exclude considerations that would open up an unduly wide field.

5 I have used Ohio rather than Illinois, because since the article of which this chapter is a revision was written (1953), Illinois has adopted a program going part-way along this line by providing scholarships tenable at private colleges and universities in Illinois. California has done the same. Virginia has adopted a similar program at lower levels for a very different reason, to avoid racial integration. The Virginia case is discussed in chapter vii.

6 The increased return may be only partly in a monetary form; it may also consist of non-pecuniary advantages attached to the occupation for which the vocational training fits the individual. Similarly, the occupation may have non-pecuniary disadvantages, which would have to be reckoned among the costs of the investment.

7 For a more detailed and precise statement of the considerations entering into the choice of an occupation, see Milton Friedman and Simon Kuznets, Income from Independent Professional Practice (New York: National Bureau of Economic Research, 1945), pp. 81-95, 118-37.

8 See G. S. Becker, "Underinvestment in College Education?" American Economic Review, Proceedings L (i960), 356-64; T. W. Schultz, "Investment in human Capital," American Economic Review, LXI (1961), 1-17.

9 Despite these obstacles to fixed money loans, I am told that they have been a very common means of financing education in Sweden, where they have apparently been available at moderate rates of interest. Presumably a proximate explanation is a smaller dispersion of income among university graduates than in the United States. But this is no ultimate explanation and may not be the only or major reason for the difference in practice. Further study of Swedish and similar experience is highly desirable to test whether the reasons given above are adequate to explain the absence in the United States and other countries of a highly developed market in loans to finance vocational education, or whedier there may not be other obstacles that could be removed more easily.

In recent years, there has been an encouraging development in the U.S. of private loans to college students. The main development has been stimulated by United Student Aid Funds, a non-profit institution which underwrites loans made by individual banks.

10 It is amusing to speculate on how the business could be done and on some ancillary methods of profiting from it. The initial entrants would be able to choose the very best investments, by imposing very high quality standards on the individuals they were willing to finance. If they did so, they would increase the profitability of their investment by getting public recognition of the superior quality of the individuals they financed: the legend, "Training financed by XYZ Insurance Company" could be made into an assurance of quality (like "Approved by Good Housekeeping") that would attract custom. All sorts of other common services might be rendered by the XYZ company to "its" physicians, lawyers, dentists, and so on.

11 I am indebted to Harry G. Johnson and Paul W. Cook, Jr., for suggesting the inclusion of this qualification. For a fuller discussion of the role of non-pecuniary advantages and disadvantages in determining earnings in different pursuits, see Friedman and Kuznets, loc. cit.