The Impact of Schooling on Wages

Abstract

between schooling and wages: Schooling raises wages. The standard empirical questions of when are wages raised and by how much have gone unaddressed. The purpose of this paper is to demonstrate that the conventional efficiency units model of human capital accumulation provides answers to these questions. The model deals with investment both in school and on the job. The existence of post-schooling investment implies a path of wages that rises over time. Proposition 1 is that the marginal impact of schooling on the log of wages at each point in time is a constant equal to the interest rate if and only if the human capital production function is locally unit elastic in accumulated stocks of capital. A constant marginal effect on log wages is what is usually assumed in empirical work. Further, extrapolating from a model with no post-schooling investment, the constant effect is expected to equal the interest rate. Proposition 1 indicates that this assumption severely restricts the underlying structure. Propositions 2 and 3 deal with intertemporal variation in the marginal effect of schooling on wages. For example, if the output elasticity of accumulated stocks in the human capital production function falls short of one, the marginal impact of schooling on log wages is shown to decline over time. Further, under a reasonable additional assumption, the marginal impact of schooling on the level of wages rises over time. The propositions arise from the fact that wealth maximization involves maximization of an appropriately discounted flow of rents. Wages at a point in time provide information on the current flow of rents. The relationship between wealth maximization and the implied optimal pattern of flow rents yields the results. The model is laid out in Section 2. Section 3 deals with optimal schooling choice. Propositions 1-3 are presented in Section 4. In Section 5 the results are employed to discuss several stylized facts in the empirical literature on the wage-schooling relation. Proofs of the propositions are straightforward and are therefore presented in an appendix.