Financial return of a university education impacted by a nation's income inequality

21 October 2020
Wage premium for university graduates likely increasing in Australia, decreasing in less equal countries
University of Sydney economists have determined a correlation between a country's level of income inequality, and the wage boost people can expert as a result of graduating from university; the 'university wage premium'.

While some of us wistfully look back on our university days as the time of our life, for most people the choice about whether or not to attend university is a pragmatic one: is it an investment worth making?

Recent research by Dr Oleksii Birulin and Associate Professors Vladimir Smirnov and Andrew Wait in the School of Economics at the University of Sydney found that over a person’s lifetime, the additional financial return of having a university education – the university ‘wage premium’ – is affected by the extent of income inequality in a country.

Published in the journal Economic Modelling, the research suggests that in more income-equal countries, the university wage premium is more likely to be increasing over a person’s working life, as it is in Australia, Switzerland and South Korea.

In less equal countries like Argentina and Brazil, the university wage premium is decreasing.

“There are many good reasons for governments to try to increase the numbers of people attending university. An unintended consequence, however, as our research suggests, could be worsening income inequality and declining average wages for those without a degree,” Dr Birulin said.

“This suggests other policy levers – like progressive taxation and transfers – are required to address issues of income inequality.”

Why the wage premium exists

“Current studies show a person’s university education acts as a signal of increased workplace productivity. Hence, university-educated employees tend to receive higher wages,” Dr Birulin said.

Among other factors, the value of this premium depends on the number of university graduates: “When relatively few people get a degree, a university education is a very strong indication of high productivity, so the university wage premium is high,” says co-author Associate Professor Smirnov.

“As a greater proportion of the population completes university, the average ability of university graduates is lower, so the wage premium falls.

“If the proportion attending university expands further still, not having a degree implies even lower average productivity, which causes the university wage premium to once again increase. This is results in a ‘U-shaped’ university wage premium pattern, as seen in the US from the 1970s-1980s.”

A graph showing the relationship between the university wage premium and the proportion of graduates

The 'U-shaped' relationship between the university wage premium and the proportion of graduates. Credit: Birulin et al.

Relationship to income inequality

Countries that have greater income inequality, such as the US, tend to have broader ranges of employee productivity. This is why, in such countries with growing graduating intakes, the university wage premium drops.

“Expanding the number of university-educated people significantly pulls down the average productivity of a graduate,” said co-author, Associate Professor Andrew Wait.

“In countries with greater income equality and therefore employee productivity, like Australia, it is more likely that university graduates are on the upwards-sloping section of the U-shaped pattern, where the university-wage premium is increasing.

“In these cases, while the average productivity of a graduate still falls, the positive signalling effect of a degree remains dominant.”

Declaration: There was no external funding for this research.

Hero image credit: Vasily Koloda on Unsplash.

Loren Smith

Assistant Media Adviser (Humanities & Science)

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