Education Expenditure Composition, Educational Quality, and Income Inequality: Evidence from 13 OECD Countries

This study examines how the composition of public education expenditure is associated with income inequality through educational quality and skill formation. While the existing literature largely focuses on aggregate education spending, this study argues that the allocation of resources across education levels plays a critical role in shaping educational outcomes and their distributional consequences. Using panel data for OECD countries over the period 2000–2022, we employ a simultaneous equation framework estimated using Three-Stage Least Squares (3SLS), complemented by a lag-structured empirical design and an instrumental-variable approach based on lagged expenditure to mitigate endogeneity concerns. The results reveal substantial heterogeneity across education levels. Tertiary education expenditure is positively associated with educational quality. Although its direct association with income inequality is not statistically significant, it exhibits a significant negative indirect association through the educational-quality channel. In contrast, spending at pre-primary, primary, and secondary levels exhibits weak or negative associations with measured learning outcomes and, in some cases, positive associations with income inequality. These patterns warrant cautious interpretation and may reflect diminishing marginal returns and endogenous policy responses in mature education systems. Further analysis suggests that educational quality serves as an important transmission mechanism linking education spending to income distribution, although no significant relationship is found with short-run economic growth, consistent with the long-term nature of human capital accumulation. Overall, the findings highlight the importance of improving the allocation and effectiveness of education spending rather than simply expanding aggregate budgets.