Investing in our Young People

This paper reviews the evidence from recent research that addresses the origins of inequality and the evolution of the capabilities that partly determine inequality. Both cognitive and noncognitive capabilities are important in producing a variety of outcomes. An emerging literature relates psychological measurements of personality and cognition to economic preference parameters and extends conventional preference specifications in economics. Comparative advantage is an empirically important feature of economic and social life. The same bundle of personal traits has different productivity in different tasks. Recent empirical work on the technology of capability formation provides an operational empirical framework. Capabilities are not invariant traits and are causally affected by parental investment. Genes and environments interact to determine outcomes. The technology of capability formation rationalizes a large body of evidence in economics, psychology, and neuroscience. Capabilities are self-productive and cross-productive. Dynamic complementarity explains why it is productive to invest in the cognitive skills of disadvantaged young children but why the payoffs are so low for cognitive investments in disadvantaged older children and are even lower for disadvantaged adults. There is no equity-efficiency trade-off for investment in the capabilities of young disadvantaged children. There is a substantial equity-efficiency trade-off for investment in the cognitive skills of disadvantaged adolescents and adults. The trade-off is much less dramatic for investment in the noncognitive skills of adolescents. Parental environments and investments affect the outcomes of children. There are substantial costs to uninhibited libertarianism in one generation if the preferences and well-being of the next generation are ignored41. The preferences, motivations, and skill endowments of adults that are created in part in their childhoods play important roles in creating inequality. They can be influenced, in part, by policy. But incentives matter too. Society can reduce crime and promote well-being by operating at both incentive and investment margins. The right mix of intervention to reduce inequality and promote productivity remains to be determined. The optimal timing of investment depends on the outcome being targeted. The optimal intervention strategies depend on the stage of the life cycle and endowments at each stage. For severely disadvantaged adults with low levels of capabilities, subsidizing work and welfare may be a better response for alleviating poverty than investment in their skills. The substantial heterogeneity in endowments and effects of interventions at different ages suggests that a universal policy to combat the adverse effects of early disadvantage is not appropriate. Optimal investment should be tailored to the specifics that create adversity and to the productivity of investment for different configurations of disadvantage. As research on the economics of capability formation matures, economists will have a greater understanding of how to foster successful people.