The economics of scholarship allocation (2 of 23)

public economics ▪ policy ▪

In this previous post, I argued that one could think of publicly-funded scholarships as public investments. Hence, just like public investments, publicly-funded scholarships should be allocated to maximise social benefits. How? In the case of public investments, this requires policy makers to do two things. First, prioritize activities with the highest social returns. Second, avoid crowding out “private investments”.

How do these translate into scholarship allocation policies? Quite easily for basic education; not so for higher education.

I’ll take the road most travelled and begin with the easier bit.

But first, what are social benefits? I briefly alluded to this before as “the benefits that accrue to society”. A related concept is private benefit, which is the benefit enjoyed by a particular individual from an activity.

Here is an example: You know the streetlight that you installed in front of your house? It reduces the likelihood that a burglar can pick your front door’s lock without being spotted. That’s the streetlight’s private benefit for you.

But that’s not the only benefit from the streetlight. Together with other streetlights in front of your neighbours’ houses, they make the street safer and more comfortable for strangers who pass by. The social benefit includes the benefits provided to you and to others that pass safely and comfortably by in front of your house

In this case, the private benefit of giving a scholarship is the welfare increase of the particular individual receiving the scholarship. The most obvious, and measurable, form of such a welfare increase is the individual’s increased income (obviously, there are others). Meanwhile, the social benefits are the said private benefit plus benefits received by others due to that person’s “improved human capital”.

However, calculating social benefits is no easy thing. A particular sticking point is on how wide a net should be cast in defining “the others” whose benefits we include in the calculation. This is related to the question of the mechanism by which a particular scholarship translates into social benefits. Having to allocate the scholarships before the fact complicates the calculation even more.

One way around this problem is by creating rules of thumb. Two rules of thumb are often used: First, put the scholarships on “investments” with the highest multiplier effects; Second, make the allocation biased towards regions whose share of educated people is low. In addition, there is the second rule of public investments, namely to avoid crowding out private investments.

These rules of thumb will generally work for basic education. The first rule implies that “scholarships” should be given to activities that would expand education the fastest. When primary schools are mostly unavailable, building them – rather than giving individuals “scholarships” to go to school elsewhere – would be the most efficient way. The second rule implies that the focus should be to build in areas where there are the least number of schools.

Indeed, both were done by Suharto with his Inpres school program of the 1970s. In this paper, Esther Duflo of MIT evaluated the long term impact of this program and found it to be a worthy investment, even when the benefits were narrowly defined as increased wages alone.

These are good enough rules of thumb to allocate scholarships for basic education. However, the rules – particularly the second rule of thumb – might have to be modified when we talk about allocating higher-education scholarships. Here, the rules get a little messier. More on this in the next post.*

*Yes, I know. I too thought this would have been a two-part post. I’ll try to finish up with the trilogy's finale next week.