Introduction
As indicated in the previous Mid-Term Evaluations (Honohan, 1997) a range of sometimes countervailing factors come to bear in determining the labour market returns, in terms of higher wages, attaching to different educational qualifications. This section reports on econometric research aimed at identifying these returns in the year 2000, using data on a large scale nationally representative sample of employees. The methods used are comparable with those reported in previous Mid-Term Evaluations for data relating to 1987 and 1994. The findings, involving changes in returns to education, are of interest in themselves and are used elsewhere in this chapter to estimate the impact of CSF/NDP investments in education, in the context of a wider model of the labour market and the macro economy.
In work based on data from 1994 it was found that returns to higher education were broadly stable, despite an increased supply of graduates arising from the expansion of third level education. International forces tending to strengthen the return to higher education may therefore have offset the downward pressure arising from increased supply. In this section we examine whether these trends have continued, or been reversed, in the years leading up to the millennium. The years in question (1994 to 2000) saw the macro economy grow at a rapid pace, and unemployment fell sharply – something which could be expected to have a significant impact on educational wage differentials.
We begin by considering the evolution of factors tending to increase or decrease returns to educational investment from 1994 to 2000. Next, we set out the data used to estimate returns to education in the year 2000. The estimates themselves are then set out and compared with estimates for 1987 and 1994. The main conclusions from this analysis are drawn together in the final part of this section.
Factors Affecting Returns to Educational Investment
Honohan (1997) classified factors affecting returns to education in three categories: supply, demand and institutional factors. We consider each of these in turn.
(i) Supply Effects:
Wage rates for individuals with different levels of education can be viewed as the “prices” for different types of labour, e.g., university graduate or Leaving Certificate. In the same way that prices in
3.2
Returns to
Education and
the Gender Pay
Gap
MACRO-ECONOMIC BACKGROUND 37
general react to changes in supply and demand, so too do the prices of different types of labour respond to changes in their supply and demand.
Evidence on the response of relative wage rates in the US to the relative supplies of labour with different educational qualifications is reviewed in Levy and Murnane (1992). They found that a “dramatic increase in the supply of college educated workers was the single most important factor contributing to the reduction in the earnings premium associated with a college education in the 1970s” (Levy and Murnane, 1992). They go on to point out that the same premium rose again in the 1980s, during which time the growth rate of college graduates as a fraction of the labour force slowed down. Fersterer and Winter-Ebmer (2003) come to a similar conclusion for Austria over the period 1981 to 1987: “The general Austrian tendency for falling returns is consistent with a relatively big increase in the supply of more educated workers in the last two decades.” They note that the evidence is not consistent with a decrease in the quality of education: if the quality of recent graduates was decreasing, returns to education for younger workers should decrease disproportionately, which did not happen.
Given the rapid growth in participation in education in Ireland in recent years and, in particular, the growth in third level participation, it can be said that there has been a shift in relative supplies, especially when the nature of the inflow into the labour market is combined with retirements and other withdrawals of less educated workers.
Bergin et al. (2003) document the change in the educational attainment of the labour force. There has been a relative increase in the numbers in the upper education categories (Leaving Certificate and above) and a decline at the lower end. Other things being equal, a decrease in the wage premium of degrees, diplomas, certificates and Leaving Certificates, would be expected. Of course, changes in supply were not the only element, and it is to the demand side of the equation that we now turn.
(ii) Demand Effects:
There is wide agreement in the economics literature that the demand for skilled (and hence more educated) workers relative to unskilled workers has been increasing in the developed world since the 1980s (Levy and Murnane, 1992; Katz and Murphy, 1992). This increasing relative demand has been found to be a contributing factor to rising wage levels for skilled workers relative to unskilled workers. Two competing theories emerged in response to this, attempting to explain the source of the increased demand for skilled workers.
The first theory is based on the changing nature of the workplace (Berman, Bound and Griliches, 1994). The idea behind this theory is that technological change has increased the productivity of highly skilled workers and reduced that of low skilled workers. In particular, the increasing importance of computers has been identified as conferring an advantage on the
skilled (Krueger, 1993). This has become known as the “skill biased technological change” hypothesis (SBTC). A recent reappraisal (Card and DiNardo, 2002) points to several question marks over the SBTC hypothesis: wage inequality in the US stabilised in the 1990s despite continuing advances in computer technology. “Viewed from 2002, it now appears that the rise in wage inequality was an episodic event”. Card and DiNardo point to other factors – including a fall in the real value of the minimum wage – which tended to increase the wage gap between skilled and unskilled workers.
The second theory is based on the growth of international trade. With the “internationalisation” of production, there are now greater opportunities for companies to transfer those elements of the production process that are low-skill intensive to areas of the world where such low-skill labour is cheap. This, of course, results in a decline in demand for low-skilled workers in the developed world and a decline in their wages.
Whichever theory is correct, the open nature of the Irish economy and labour market would lead us to believe that the relative demand shift described has affected Ireland. Evidence for this was given in Honohan (1997): the share of non-agricultural employment accounted for by the top two groups in the skill hierarchy (managers/proprietors and professionals) rose from 26.1 per cent to 30.4 per cent between 1981 and 1991, while the share of skilled and unskilled manual occupations fell from 39.6 per cent to 33.2 per cent. Recent work (Sexton et al., 2003) indicates that this trend has continued, with the share of the top two groups rising by a further 4.5 percentage points, and the share of manual occupations falling by a further 3 percentage points.
Thus, the labour market outcomes point to a shift between skill groups. This could arise from a variety of different mixes of supply and demand factors, but given the wider international evidence on this topic, it seems likely that an international shift in demand has played a significant role in leading to the Irish outcome.
Table 3.1: Unemployment Rate (ILO definition), 1987-2002
Year Unemployment Rate (ILO definition)
1987 16.9
1994 14.7
2000 4.3
2001 3.7
2002 4.2
Notes: There is a discontinuity in the series between 1997 and 1998, as the survey used to measure unemployment changed from the annual Labour Force Survey to the Quarterly National Household Survey.
Cyclical demand forces must also be taken into account. Between 1987 and 1994 the unemployment rate fell by just over 2 percentage points. But the rate fell by more than 10 percentage points between 1994 and 2000, reaching a historically very low level of 4.3 per cent. Unskilled unemployed may have been among the
MACRO-ECONOMIC BACKGROUND 39
last to be included in the employment boom. If so, then the existence of a pool of unskilled unemployed could have exerted downward pressure on unskilled wages for some years, until the boom eventually mopped up excess labour supply and bid up wages among the unskilled.
(iii) Institutional Context:
Since 1987, the Irish labour market has been characterised by comprehensive national wage agreements whereby wages for a large number of employees have been set through collective bargains. In this context the influence of market forces may be attenuated. Hence, although the demand and supply changes which we have identified would tend to generate pressure for changes in the relative wages of education groups, the institutional context works to keep the relative wage rates constant.
A further institutional factor is the introduction of a National Minimum Wage in the year 2000. While initially the level at which this was set suggested that it might have a substantial impact on the wage distribution, the rapid growth of wages driven by economic growth reduced this potential impact. Whatever about the size of the impact, it seems clear that some boost to unskilled wages relative to skilled wages is likely to have been induced. (See Nolan, O’Neill and Williams, 2002).
How might these different influences have combined to affect the relative returns to different levels of education over the period 1994 to 2000? The first factor, supply shifts, would have lowered returns to higher levels of education. There is some ambiguity about the second group of factors, which includes elements tending to increase and to reduce the returns to education. The continuation of collective wage agreements is likely to have attenuated the influence of supply and demand forces, while the introduction of a national minimum wage seems likely to have given a modest boost to unskilled wages relative to skilled wages, reducing the return to education.
The Data
Data for the estimation of returns to education in the year 2000 are drawn from the Living in Ireland Survey for that year. Full details of the survey, including sampling, response rates, and the construction of weights to ensure that survey estimates represent the national population can be found in Whelan et al. (2003). Here we summarise some of the key features. The Living in Ireland Survey began in 1994, and each year from then until the year 2001, it sought to re- interview those households and individuals still “in scope”. The initial household response rate was 57 per cent – not unusual for a survey of this type. Fall-out or “attrition” from the sample was somewhat higher than in other EU countries which were conducting similar panel surveys as part of EUROSTAT’s European Community Household Panel project. While analysis suggests that this fall-out was, for the most part, not heavily
concentrated on particular groups, the absolute size of the sample, and hence the precision of estimates based on it, was affected by attrition. In the year 2000, however, the sample was “refreshed” by interviewing over 1,500 new households, bringing the total sample size to 3,467. This is the sample on which the present analysis is based.
Similar data were gathered in the Living in Ireland Survey 1994, and in the Survey of Income Distribution, Poverty and Usage of State Services in 1987. These data have been used already in Mid- Term Evaluations of the Community Support Framework for earlier periods, and the new estimates can, therefore, be compared with those from Fitzgerald and Keegan (1993) and Honohan (1997).
Estimates of Wage Premia Attaching to Educational Qualifications
We follow the methods used in earlier analyses for CSF mid-term evaluations in order to derive comparable estimates for the year 2000. Thus, we begin by estimating a wage equation of the following type:ln w = β X + ε
where ln w is the natural log of the gross (i.e., pre-tax) hourly wage, X is a vector of individual characteristics and β is a vector of coefficients associated with these characteristics. Included in the X vector are four educational categories, which are used to indicate the highest educational qualification achieved by the individual:
Junior cycle: Group or Intermediate Certificate,
or the recent replacement, the Junior Certificate;
Leaving Certificate: includes those whose highest
qualification is a Leaving Certificate, along with participants on Post-Leaving Certificate (PLC) and other VPTP16 courses;
Diploma or other third level: non-degree qualifications from such institutions as regional technical colleges;
University degree: includes both primary and higher
degrees.
The premium for each of these educational qualifications is measured against the base provided by earnings of those with “no qualifications beyond primary level” (the omitted category). We
16 VPTP refers to the Vocational Preparation and Training Programme. Participants
on PLC and other VPTP courses are included in the Leaving Certificate category mainly because they amount to a small group in the data and so will not have a large impact on the estimates. Using the data available, we find that VPTP participants in the age group 15-32 have earnings that are not significantly different from Leaving Certificate holders and so the approach of combining these groups is acceptable.
MACRO-ECONOMIC BACKGROUND 41
examine results for three different specifications to allow for the possibility that the estimates of returns to education are sensitive to model specification (comparable results are available for 1987 and 1994). These specifications are as follows:
Specification 1: Age and its square,17 the educational categories,
sex and sex interacted with marital status, residence in Dublin and another urban area, completed apprenticeship/trade qualification;
Specification 2: As 1 but with the educational categories
interacted with age bands (15-32, 33-49 and 50- 64);
Specification 3: Years worked with its square, years spent in a return to training or education, years not worked and its square, the educational categories, the sex/marital status dummies, the Dublin/urban residence dummies and the time served dummy; Given the complexities arising from the endogeneity of female labour supply with respect to the wage rate and the rise in women’s labour force participation over the period, we have performed the analysis for the full sample and, in addition, for men only. We will begin by presenting the results for Specification 1 and 3 together, as these do not differentiate returns across age bands but rather view returns as being constant across age bands. The results are presented in Table 3.2 below.
Table 3.2: Estimates of Returns to Education (All ages), 1987, 1994 and 2000
All Males
Specification Education Category 1987 1994 2000 1987 1994 2000
(1) Group, Inter, Junior Cert 0.17 0.22 0.13 0.18 0.24 0.14
Leaving Cert 0.37 0.41 0.33 0.36 0.38 0.27
Diploma or other 3rd level 0.58 0.54 0.54 0.47 0.47 0.43
University degree 0.86 1.01 0.84 0.76 0.89 0.75
(3) Group, Inter, Junior Cert 0.12 0.18 0.11 0.13 0.21 0.11
Leaving Certificate 0.36 0.36 0.27 0.35 0.37 0.23
Diploma or other 3rd level 0.59 0.53 0.49 0.49 0.52 0.43
University degree 0.88 1.01 0.80 0.79 0.95 0.76
Note: A coefficient of 0.50 indicates that having the relevant educational qualification leads to an hourly wage 50 per cent higher than the base case, the same individual with no formal qualification (or equivalently, adds 0.50 to the logarithm of the wage).
Results for the full sample (males and females) indicate a sharp fall in returns to all educational qualifications with the exception of third-level diplomas. These falls are relative to the reference category, employees with no educational qualification at second level or higher. The sharpest fall is for university degrees, where the wage commanded in 2000, relative to an unskilled wage, is between 16 and 19 per cent lower than in 1994. The fall for Junior and Leaving Certificate qualifications (again relative to the wage for a
17 The inclusion of age and its square allows for wages to rise with age initially, but
person without a qualification) is more modest, though still sizable, at between 7 and 9 per cent. The pattern is broadly similar when attention is restricted to male employees (for whom complications arising from rapid growth in participation do not arise). There is, however, some evidence of a fall in the return to a diploma (of the order of 4 to 8 per cent) relative to the wage for an unqualified person.
Table 3.3: Estimates of Age-specific Returns to Education, 1987, 1994 and 2000
All Male
Specification Educational Category 1987 1994 2000 1987 1994 2000
(2) Age Group 15-32
Group, Inter, Junior Cert Leaving Certificate Diploma or other 3rd level University degree 0.08 0.23 0.39 0.73 0.11 0.21 0.26 0.73 0.06 0.17 0.35 0.58 0.11 0.19 0.29 0.65 0.19 0.22 0.26 0.63 0.07 0.09 0.22 0.53 Age Group 33-49
Group, Inter, Junior Cert Leaving Certificate Diploma or other 3rd level University degree 0.18 0.42 0.56 0.90 0.24 0.52 0.67 1.13 0.14 0.37 0.58 0.94 0.12 0.43 0.46 0.78 0.23 0.46 0.58 0.97 0.13 0.33 0.53 0.81 Age Group 50-64
Group, Inter, Junior Cert Leaving Certificate Diploma or other 3rd level University degree 0.21 0.49 0.87 0.94 0.14 0.35 0.71 1.04 0.10 0.36 0.60 0.92 0.23 0.64 0.67 0.80 0.15 0.38 0.55 0.95 0.16 0.34 0.46 0.81
Note: A coefficient of 0.50 indicates that having the relevant educational qualification leads to an hourly wage 50 per cent higher than the base case, the same individual with no formal qualification (or equivalently, adds 0.50 to the logarithm of the wage).
Turning now to Table 3.3, we consider the estimates which take account of the fact that returns may vary across age groups. For the youngest age group we find much in common with the pattern of results for all ages. There is a modest fall in the premium attaching to Junior and Leaving Certificates, and a sharper fall for university degrees. We find a rise in the value attaching to third-level diplomas. For young men, the fall in the value of Junior Certificate and Leaving Certificate examinations is more marked, and there is also a fall in value of diplomas. For the group aged 33-49 the main deviation from the all-ages pattern is that the premium attaching to a diploma fell by 5 to 9 per cent. For the older group (aged 50 upwards) the results were, however, quite different. The premia attaching to Junior and Leaving Certificates held up quite well; but diplomas and degrees each saw sharp falls (of the order of 10 per cent) in their premia relative to the wage for those without qualifications.