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Human Capital. In economics we talk about the 4 basic resource groups Land, Labor, Capital (things made to make other things), and Entrepreneurship.
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In economics we talk about the 4 basic resource groups Land, Labor, Capital (things made to make other things), and Entrepreneurship. Note labor and entrepreneurship deal with people. Human capital relates to the skills and talents people have developed over time. Here we want to explore the economic theory that people may decide to “invest” in human capital. Examples of this type of investment are formal education (college) and on-the-job training.
Investment in college Here we will work with a graph that lists years of experience on the horizontal axis and earnings on the vertical axis. The earnings are $ benefits net of costs of various options, or choices, over time. Example: person finishes high school and is thinking about college, Choice 1: enter job market right after high school – no real costs and earnings begin. Choice 2: go to a 4 year school. We assume years of college mean no earnings. Direct cost is tuition and books and the like. Indirect cost is forgone income could have made if working in that “high school” job. After 4 years job is obtained.
$ The graph is called the experience (or age) earnings profile graph. Note earnings rise over most of the time. High school Experience – 0 means right at high school graduation 0
$ Note that if we put a rectangle in each year the rectangle represents the earnings that year. The earnings are really more than the area under the curve, but we focus on that to make the graph easier to work with. Experience – 0 means right at high school graduation 0 4
$ College 4 years Additional earnings of college High school Indirect costs Experience – 0 means right at high school graduation 0 Direct costs 4
The college decision, in a sense, has a plus and a minus in relation to just a high school diploma. The plus side, as seen in the graph, is the additional income one would earn over the lifetime after college. In this graph I have assumed to additional earnings is positive and a certain amount. This is different, potentially, for each person. On the minus side we have two major ideas. 1) When in college the individual can not earn the high school income, so we have an opportunity cost of college as the forgone income. This is labeled the indirect cost of college. 2) The direct cost of college is the tuition and books and the like. If the additional earnings of college are greater than the costs of going to college (IN PRESENT VALUE TERMS), then the individual will choose college. Otherwise, the college decision will not pan out.
Changes over time The model seems as though we could go without the graph. We probably could, but it is a shorthand way of remembering the details. Plus the visual in the graph helps us think about changes in the environment. For example, say the earnings to the college degree increase, given all other factors the same. Then the benefit side grows and we would expect more folks to have college pay off. As another example, it seems the college experience is moving to a five year endeavor. Given all else this makes the cost area bigger and thus the more likely college will not pay off.
Job, or work experience, interruptions: When it is expected that a person will have periods of time of no job, then there will be no earnings. It may be the case that during a job interruption that some skills may be lost – the old use it or lose it idea. Thus, the earning profile is interrupted and may shift down due to an absence from work for a period of time. Let’s see this in the graph on the next screen.
After the work interruption we have the earnings profile shift down. Later benefits are lower then. $ Benefits of college College 4 years High school Indirect costs Experience – 0 means right at high school graduation 0 Direct costs 4 Job interruptus
Folks who expect job interruptions in their work life will see the benefits of college shrink, and thus college may no longer be a “profitable” investment. In the US, women have traditionally been the ones with a career of starts and stops in the work world. This model helps us understand why women have been less of the population of colleges and universities in the past. Now, in more modern times we see that the culture of the US has changed such that women are experiencing fewer work interruptions and thus the college decision pays off. We see greater percentages of women in college today.
