Mind the Gap: Schooling, Informality and Fiscal Externalities in Nepal

While increasing average years of school has been a development priority for decades, the associated fiscal costs and benefits have been less studied, in part because of the lack of appropriate data. Recently UNESCO organized a project measuring the extent of subsidies, by level of schooling, from all levels of government, in eight developing countries. One of these countries was Nepal, which also has a household budget survey that permits us to estimate the degree of formality, tax payment, and benefit receipt as a function of years of schooling. Using a simple Mincer-like model, we estimate the fiscal externality associated with an additional year of school. In contrast to previous literature on social returns and assumptions underlying multilateral development goals, we find that within primary school, fiscal benefits and costs, on the margin, are quite balanced, with subsidies closest to the present value of future taxes minus benefits. At higher levels of schooling, however, marginal fiscal benefits exceed costs by 5 percent of per-capita consumption.