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III. Impact on Higher Earnings

The traditional approach used to measure the economic impact of higher education is through examining the earnings of its graduates. Our analysis indicates that the Texas higher education system increases the discounted present value of the earnings of its attendees and graduates by an estimated $9.2 billion. Of this total, just over half, or $4.7 billion, in additional earnings is contributed by those who earn bachelor’s degrees. The bulk of the additional gain is obtained from those who earn associate and master’s degrees, along with those who attend college, but do not graduate.

Theoretical Considerations

Beginning with the work of Jacob Mincer and Theodore Schultz,[26] economists long have investigated the relationship between a person’s stock of educational knowledge, or “human capital,” and future earnings capability. Much like a businessperson contemplating purchasing a particular piece of equipment, the rational individual supposedly compares the future earnings gained from a particular educational “investment” relative to its costs, then picks an educational program that maximizes the return from that investment. This return then can be compared to other non-educational long-term investments, such as the stock market, to see if the educational investment is a worthwhile pursuit.

Another way to measure the return from a particular educational investment is to compute the rate that equates the discounted gains in future earnings to the current direct and indirect costs of attending school. In calculating this “internal rate of return,” however, only earnings realized from the additional educational knowledge may be included and not earnings that a person would have gained anyway because of higher intelligence, ability, and/or socioeconomic status.

Selectivity bias, where more intelligent and/or talented student generally undertake higher educational coursework, complicates this issue and makes it very difficult to separate the earnings gains only attributable to higher education. According to educational experts, roughly 79 percent of the earnings differential between baccalaureate and high school graduates is due to knowledge gained in college alone. This “alpha factor” increases with the level of education, reaching approximately 90 percent at the graduate level.[27]

Indirect expenses, such as foregone earnings, are another important consideration in calculating the costs of attending school. Lost earnings while attending college, average just over $20,000 per year for high school graduates and are, by far, the most significant cost in pursuing a higher education degree.

Finally, for students who live away from home while attending school, careful considerations much be given to whether other expenses, such as room and board, should be included as a college-related expense. These costs are probably relevant for an undergraduate attending college outside of reasonable commuting distance from their parent’s home. For most students, however, including commuters and graduate/professional students, who would have been incurring these expenses anyway, the cost should not be included.

Data Considerations

In analyzing these results, two data considerations are also important. First, because of its relatively small sample size, the US Bureau of the Census Current Population Survey’s national, rather then state-level earnings data, was used to compute the rate of return (and present values) used in this study. A more aggregate analysis, however, indicates that our implicit assumption that Texas and US earnings differentials are similar is not far off the mark. Table 3.1 shows that from 1992 through 1998, the earnings gain of Texas college graduates versus high school graduates has averaged only about 4 percent more than the same differential nationally. Given the relatively small size of the CPS sample in Texas (7,800 persons out of an estimated state population of 19.9 million), this difference is probably not significant.[28]

Table 3.1
Texas and U.S. Earnings from College Compared to
High School Degrees, 1992-1998
Median Earnings
TexasUnited StatesTexas Versus US
HSBA+DifferenceHSBA+DifferenceRatio (%)3-Yr Avg
Mean Earnings
TexasUnited StatesTexas Versus US
HSBA+DifferenceHSBA+DifferenceRatio (%)3-Yr Avg
Sources: Carole Keeton Rylander, Comptroller of Public Accounts; US Bureau of the Census, Current Population Survey.

Second, it was assumed that students at all levels of study, except the bachelor’s degree, would not incur additional room and board, transportation, and other personal expenses because they would have been commuters or living away from home anyway. Based on data for public universities, the Comptroller’s office was able to compute that just over 40 percent of students pursuing baccalaureate degrees attended high school in the same metropolitan area as the college or university they attend.[29] Thus, in the calculations presented in this chapter, it was assumed that 60 percent of baccalaureate students would incur room and board, transportation, and other personal expenses while attending college and 40 percent would not.

The Return from Texas Higher Education

Based on the alpha factors discussed above, the Census Bureau’s national-level earning data, and the tuition, fee and other educational costs supplied by the Texas Higher Education Coordinating Board,[30] the combined rate of return from earning a bachelor’s degree from a Texas higher education institution is estimated to be just below 11 percent (see Table 3.2). This estimate falls roughly in the range of the 10 percent to 14 percent return on a baccalaureate degree found in similar studies across the country.[31]

Table 3.2
Estimated Rate of Return from
Texas Higher Education Bachelor's Degree

U.S. Median Earnings Differentials by Sex and Educational Attainment, 1991-98
Real 1998 $
Workers 25 Years and Older
Bachelor's vs. High School Degree
(Alpha Factor = 0.79)
MaleHigher Education GainFemaleHigher Education Gain
HS Graduate or EquivalentBachelor's DegreeDifference 1998$Ratio BA/HSHS Graduate or EquivalentBachelor's DegreeDifference 1998$Ratio BA/HS

College Costs
YearTuition/FeesBooks/SuppliesRoom/BoardTransportationPersonalTotal Expenses

Internal Rate of Return and Present Values
YearAll CostsLost Earnings & Direct CostsWeighted Average
All Costs
Lost Earnings & Direct CostsWeighted Average
NPV (6%)$106,345$135,487$118,206$89,108$118,249$100,969

Sources: Carole Keeton Rylander, Comptroller of Public Accounts; US Bureau of the Census, Current Population Survey.

Also, probably because of diminishing returns to higher levels of study, the rate of return falls from nearly 15 percent for Texans who earn an associate’s degree or attend some college, to the 11 percent rate of return for a BA or BS degree. But counter to other studies, our calculated returns do not continue to drop at post-baccalaureate levels.[32] In Texas, the return was found to average almost 12 percent at the master’s and doctoral levels and more than 14 percent for lawyers, medical doctors and other professionals (see Table 3.3).

Finally, in all cases the return for education equals, or in most cases greatly exceeds, the 10 percent long-term return generally expected from a diversified stock market investment.[33] Thus, in Texas, pursuing higher educational study generally appears to be a good long-term investment. In this analysis, students are assumed to reap the benefits of their educational investment over a working lifetime of 45 years—from age 22 years to retirement at 67.

The Present Value of Texas Higher Education

Another way to examine the value of an educational investment is to calculate the present value of future earnings gains and subtract the current (direct and indirect) costs of that investment. Unlike the rate of return approach, however, the interest rate used to discount future earnings in this calculation is determined by external market conditions, rather than internally determined in the calculation.

One major disadvantage with present value, compared to rate of return calculations, is that the magnitude of a discounted present value is generally proportionally to the value of the educational investment and the return from one type of educational investment cannot be directly compared to another. However, discounted present values can be aggregated over a wide class of educational pursuits to determine the total economic contribution of higher education.

Table 3.3 shows, that the discounted present value of the most costly educational endeavors, including professional ($309,500), and doctoral ($180,600) degrees are much greater than those who complete only some college ($37,600). For the most common bachelor’s degrees, the net present value of the earnings gain, less direct and indirect expenses—including foregone income—averages approximately $108,700. Multiplying this earnings gain by: 1) the 90 percent of 55,300 BA and BS graduates from in-state sources and 2) the slightly less than 90 percent of bachelor’s graduates who enter the workforce,[34] yields a discounted present value to the Texas economy of approximately $4.7 billion. Aggregating these calculations over all levels of study yields a net present value of the Texas higher education system of $9.2 billion. In total, the lion’s share, or about $7.1 billion is gained by undergraduates (some college, associate’s, and bachelor’s degrees), with the remaining $2.1 billion earned by those with more advanced master’s, doctoral, and professional degree.

Table 3.3
Texas Discounted Earnings Gains
from Higher-Education Degrees, Fiscal 1998
Higher Education DegreeAvg Graduates Fiscal 95-98In-State (%) Fiscal 95-98Rate of Return (%)NPV Earnings Gain/WorkerEmployment (Percent)Total Earnings Gain (Mil of $)
Some College(1)36,32692.7%14.65%$37,62482.5%$1,046
Total-All Degrees136,31291.3%12.74%$86,35685.5%$9,190
(1) Estimated number of students who leave baccalaureate programs without a degree per year.
Source: Carole Keeton Rylander, Texas Comptroller of Public Accounts.

In this calculation, the interest rate used to discount future earnings can have profound impact on the estimated net value of the educational system. Since higher rates value future earning less relative to current educational costs, the higher the discount rate, the lower the net value of the educational system to society. Because education benefits not only the individual, but all members of society, and earnings gains are reaped over a relatively long period of time, it was determined to use the current U.S. 30-year treasury rate of approximately 6 percent, in these calculations.[35]

Impact of State Economic Output

Since earnings represent only a portion of the economy, this estimated $9.2 billion in the net economic impact of Texas higher education graduates tells only part of the story. Although there are several theoretical and empirical issues measuring labor’s share of the national economy,[36] figures from the Bureau of Economic Analysis indicate earnings represent 53 percent of Texas gross state product.[37] Dividing this $9.2 billion discounted earnings gain by 53 percent indicates that higher education produces a net discounted value of $17.3 billion annually of higher output for the Texas economy. Based on the earnings gains, 77 percent, or $13.3 billion of the increased output is attributable to graduates with bachelor’s and other undergraduate degrees, the remaining $4 billion originates from students with advanced degrees.