Investments in Human Capital: The People Based Economy

Kevin M. MurphyThe University of Chicago

September 3, 2012

Background

U.S. Real Per Capita GDP 1889-2010

8.25

8.75

9.25

9.75

10.25

10.75

1880 1900 1920 1940 1960 1980 2000

Log

of R

eal P

er C

apita

GD

P

Where Does Growth Come From?

• There are three primary sources of growth• Investment in physical capital• Investment in human capital• Improvements in technology (knowledge)

• Primary goals of policy should be to• Maintain the incentive for physical investment• Provide an environment that fosters the growth of

human capital• Provide rewards for innovation

How do People Fit into the Economic Picture?

• People are important as both inputs and outputs• Human capital is our most important input

• Accounts for roughly 65 percent of our productive capacity• With increasingly mobile capital and technology, countries

will be increasingly defined by their human capital

• The production and maintenance of human capital is our most important output• Education• Healthcare• On the job training

People Have Been at the Center of Some of the Most Important Economic Developments of Our

Lifetimes

• Increases in the return to education and skills have revolutionized labor markets and society

• Improvements in health and longevity have added as much value to peoples lives as have increases in material wealth

• Technological changes have increased the value of education outside of the workplace as well

The Rising Importance of Education(Based on Becker & Murphy 2007)

Education Wage Premiums

1.3

1.5

1.7

1.9

2.1

2.3

1965 1975 1985 1995 2005

Rel

ativ

e W

age

College Graduates

Graduate School

Education Premiums by Gender

1.2

1.3

1.4

1.5

1.6

1.7

1.8

1965 1975 1985 1995 2005

Re

lati

ve

Wa

ge

Women

Men

Education Premiums by Race

1.3

1.4

1.5

1.6

1.7

1.8

1965 1975 1985 1995 2005

Re

lati

ve

Wa

ge

Blacks

Whites

Overall Rise in Wage Inequality for Men

80.0

100.0

120.0

140.0

160.0

180.0

1966 1971 1976 1981 1986 1991 1996 2001 2006

Ind

ex

ed

Re

al W

ag

e (

19

67

=1

00

.0)

10th Percentile

50th Percentile

90th Percentile

Wage Growth by Percentile 1968-2004

0.00

0.10

0.20

0.30

0.40

0.50

0.60

5 15 25 35 45 55 65 75 85 95Percentile

Rea

l Wag

e G

row

th

Explaining Changes In Education Returns Using Supply & Demand

• Growth in the college premium can be explained by a very simple model

• Model based on Katz-Murphy 1992• The model:

• Demand grows steadily over time• Fluctuations in supply cause education premiums to

fluctuate• Supply grows faster than demand premium falls• Demand grows faster than supply premium rises

Supply Growth & Relative Wages

1.20

1.40

1.60

1.80

2.00

2.20

1963 1973 1983 1993 2003

Actual Wage Ratio

Predicted Wage Ratio

The Supply Response

• Growth in the college premium has generated a predictable response – more people have gone on to college

Wage Ratios & College Enrollment

0.35

0.40

0.45

0.50

0.55

1965 1975 1985 1995 2005

Fra

cti

on

of

20

-25

Yr.

Old

s w

ith

So

me

C

olle

ge

1.3

1.4

1.5

1.6

1.7

1.8

Wa

ge

Ra

tio

Attendance

Wage Ratio

Actual and Predicted Private College Tuition

$0

$5,000

$10,000

$15,000

$20,000

1963 1968 1973 1978 1983 1988 1993 1998 2003YEAR

Re

al A

nn

ua

l Tu

itio

n (

20

00

$)

Actual

Fitted

Education & Gender(Becker Hubbard & Murphy 2010)

• While the fraction of individuals going on to college has increased over time the fraction graduating has not kept pace

• The most likely reason is that many students are not well prepared

• This is particularly true for young men• As a result of this and other factors college

graduation rates for men are falling behind those for women

College Graduation by Gender

Mean GPA of High School Graduates, High School Transcript Studies

DISTRIBUTION OF FIRST-YEAR UNDERGRADUATE GPA, BEGINNING POSTSECONDARY STUDENTS LONGITUDINAL STUDY

Education & the Household(Becker & Murphy 2008)

• Over time education has become more important in the household as well

• Education based differences in health and longevity have increased in recent decades

• More home based and out-patient care• Increases in drug therapies and patient

monitoring• Education plays and important role in many other

household activities• Financial decision making• Care and education of children

Improvements in Health(Based on Murphy & Topel 2007)

Basic Results• Historical improvements in life expectancy

have been very significant – improvements in longevity from 1970 to 2000 were worth roughly $95 trillion (or about $3.2 trillion per year) to U.S. citizens

• Improvements in life expectancy have contributed about as much to overall welfare as have improvements in material wealth

Basic Results (cont.)

• Potential future gains are also very large:• A 10% reduction in cancer death rates is worth roughly $4.7 trillion

to the U.S. alone• Reducing cardiovascular disease deaths by 10% is worth roughly

$5.7 trillion U.S. alone• Worldwide benefits would be several multiples of that

• Even modest progress has great value:• A 10% reduction in cancer deaths worth over $4.5 trillion• Historical reduction in heart disease from 1970 to 2000 was worth

about $35 trillion• A 10% reduction in accident related deaths is worth about $1.4

trillion

The Value of Increased Longevity

Figure 3: Values of 1/10,000 Reduction in Death Rates

$0

$100

$200

$300

$400

$500

$600

$700

$800

0 10 20 30 40 50 60 70 80 90 100 110

Age

Va

lue

of

a 1/

10,

000

Red

uct

ion

In D

eath

Rat

es

Extending the Model to Improvements in Health

Figure 2b: Implied Shape of H(t) Consistent with Consumption Data

0.00

0.20

0.40

0.60

0.80

1.00

1.20

20 30 40 50 60 70 80 90 100 110

Age

Rel

ativ

e H

ealt

h

Lifecycle Pattern of Health Implied by Consumption Data

Gains at The Individual Level

Figure 6a. Gains from Increased Longevity for Males 1970-2000

-$100,000

$0

$100,000

$200,000

$300,000

$400,000

$500,000

0 10 20 30 40 50 60 70 80 90 100

Males1990-2000

Males1980-1990

Males1970-1980

Aggregate Gains

Aggregate Gains from Increased Longevity 1970-2000

Aggregate Gains (Billions of $2004)

1970-1980 1980-1990 1990-20 1970-2000

Males $26,699 $15,471 $19,153 $61,323

Females $20,515 $9,067 $4,440 $34,022

Total $47,214 $24,538 $23,593 $95,345

Estimated Gains Net of the Increase in Health Expenditures 1970-1980 1980-1990 1990-2000 1970-2000

Gross Gains (from Table 5) $47,214 $24,538 $23,593 $95,345 Increase in Expenditures $8,206 $14,928 $11,591 $34,725 Gains Net of Expenditure Growth $39,008 $9,611 $12,001 $60,620 Expenditure Increase as a % of Gains 17.4% 60.8% 49.1% 36.4%

Caveats to the Net Gains Analysis

• Gains include improvements from many margins not just health care

• Health care costs include many expenditures other than those directed at longevity

• However, the comparison allows us to compare the size of two important trends

Longer Term Changes

• Recent improvements are reflective of longer term gains in longevity

• Gains were actually somewhat greater in earlier decades using a fixed valuation profile (like fixed basis GNP accounting)

• Gains have become increasingly concentrated at older ages in recent decades

Figure 5: Cumulative Value of Longevity Gains Since 1900: Men and

Women in 2000

-$200,000

$0

$200,000

$400,000

$600,000

$800,000

$1,000,000

$1,200,000

$1,400,000

1900 1910 1920 1930 1940 1950 1960 1970 1980 1990 2000

Year

Gai

n (

1996

Bas

e Y

ear)

Males

Females

Prospective Gains

Figure 9a. Value of a 10% Reduction in Death Rates from Selected

Disease by Age for Males

$0

$5,000

$10,000

$15,000

$20,000

$25,000

$30,000

$35,000

$40,000

0 10 20 30 40 50 60 70 80 90 100

Cardiovascular

Cancer

Cerebrovascular

Infectious Disease (Incl. AIDS)

Accidents

Figure 9b: Value of a 10% Reduction in Death Rates from Selected

Disease by Age for Females

$0

$5,000

$10,000

$15,000

$20,000

$25,000

$30,000

0 10 20 30 40 50 60 70 80 90 100

Cardiovascular

Cancer

Cerebrovascular

Infectious Disease (Incl. AIDS)

Accidents

Males Females Total

$10,651 $7,885 $18,536

$3,254 $2,471 $5,725$2,676 $1,852 $4,529

$393 $460 $852

$2,415 $2,261 $4,675$847 $557 $1,404

$3 $444 $447$301 $302 $603$575 $431 $1,006

$500 $148 $649

ALL CAUSES

MAJOR CARDIOVASCULAR DISEASES DISEASES OF HEARTCEREBROVASCULAR DISEASES

MALIGNANT NEOPLASMSRESPIRATORY AND RELATED ORGANSBREASTREPRODUCTIVE AND URINARY ORGANSDIGESTIVE ORGANS

INFECTIOUS DISEASES (Including AIDS)

Gain from a Permanent 10% Reduction in Death Rates by Category of Disease(Billions of $2004)

Gain from a Permanent 10% Reduction in Death Rates by Category of Disease

(Billions of $2004) (Continued)

$343 $331 $674

$214 $194 $408

$237 $249 $486

$217 $102 $319

$977 $421 $1,398 $519 $247 $767

$324 $90 $415

$411 $102 $513

MOTOR VEHICLE ACCIDENTS

HOMICIDE AND LEGAL INTERVENTION

SUICIDE

PNEUMONIA AND INFLUENZA

DIABETES

CHRONIC LIVER DISEASE AND CIRRHOSIS

ACCIDENTS AND ADVERSE EFFECTS

CHRONIC OBSTRUCTIVE PULMONARY

Males Females Total

Important Policy Questions• How do we take advantage of growing

demand for education and skills?• Increasing investment in higher education• Improving education at lower levels

• How do we take advantage of potential gains from medical advance?

• Balancing the costs and benefits• Improving insurance• Talking advantage of scalable technologies and the

world-wide growth in incomes