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Qualifications and earnings in Britain: how reliable are conventional OLS estimates of the returns to education?

The paper estimates the returns to education for a cohort of individuals born in Britain in March 1958 who have been followed since birth until the age of 33. The data used has a wealth of information on family background including parental education, social class and interest shown in the child's education as well as measures of ability. The nature of our data allows us to directly assess the relative importance of omitted ability and family background bias as well as biases arising from measurement error in education qualification variables which have been found to be important in other studies. The paper also looks at possible biases arising from compositional differences between individuals in work and those out of work. This 'Composition bias' arising from self-selection into employment is generally ignored in the returns to schooling literature and is why most studies focus only on men (for whom it is assumed this is much less of a problem). The paper also examines whether there is evidence of heterogeneity in the returns to education as well as the impact of education on gender wage differentials. The paper finds that conventional OLS estimates, which assume that education is exogenous, are reasonable estimates of the true causal impact of education on wages. In the UK it would appear that the effects of measurement error bias and composition bias directly offset the countervailing effect of unobserved ability and family background bias for most qualifications. The results from the paper suggest that conventional OLS estimates of the returns to education can generally be relied upon for policy decisions. The paper also finds evidence of heterogeneity in the returns to education in Britain. The results from the paper suggest that individuals undertaking schooling involving some sort of formal qualification have significantly larger rates of return than individuals who complete the same number of years of schooling but who obtain no formal qualifications. There is also some evidence that individuals with lower tastes for education, have significantly higher marginal returns to certain education qualifications. We also find that post-school qualifications, particularly degree qualifications, play an important role in reducing gender wage differentials. The data used has a wealth of information on family background including parental education, social class and interest shown in the child's education as well as measures of ability. The nature of our data allows us to directly assess the relative importance of omitted ability and family background bias as well as biases arising from measurement error in education qualification variables which have been found to be important in other studies. The paper also looks at possible biases arising from compositional differences between individuals in work and those out of work. This 'Composition bias' arising from self-selection into employment is generally ignored in the returns to schooling literature and is why most studies focus only on men (for whom it is assumed this is much less of a problem). The paper also examines whether there is evidence of heterogeneity in the returns to education as well as the impact of education on gender wage differentials. The paper finds that conventional OLS estimates, which assume that education is exogenous, are reasonable estimates of the true causal impact of education on wages. In the UK it would appear that the effects of measurement error bias and composition bias directly offset the countervailing effect of unobserved ability and family background bias for most qualifications. The results from the paper suggest that conventional OLS estimates of the returns to education can generally be relied upon for policy decisions. The paper also finds evidence of heterogeneity in the returns to education in Britain. The results from the paper suggest that individuals undertaking schooling involving some sort of formal qualification have significantly larger rates of return than individuals who complete the same number of years of schooling but who obtain no formal qualifications. There is also some evidence that individuals with lower tastes for education, have significantly higher marginal returns to certain education qualifications. We also find that post-school qualifications, particularly degree qualifications, play an important role in reducing gender wage differentials.

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Paper provided by Institute for Fiscal Studies in its series IFS Working Papers with number W99/07.

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Length: 48 PP.
Date of creation: Jul 1999
Date of revision:
Handle: RePEc:ifs:ifsewp:99/07
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  1. Butcher, Kristin F & Case, Anne, 1994. "The Effect of Sibling Sex Composition on Women's Education and Earnings," The Quarterly Journal of Economics, MIT Press, vol. 109(3), pages 531-63, August.
  2. Blackburn, McKinley L & Neumark, David, 1993. "Omitted-Ability Bias and the Increase in the Return to Schooling," Journal of Labor Economics, University of Chicago Press, vol. 11(3), pages 521-44, July.
  3. Harmon, Colm & Walker, Ian, 1999. "The marginal and average returns to schooling in the UK," European Economic Review, Elsevier, vol. 43(4-6), pages 879-887, April.
  4. Lorraine Dearden & Javier Ferri & Costas Meghir, 2000. "The effect of school quality on educational attainment and wages," IFS Working Papers W00/22, Institute for Fiscal Studies.
  5. Iacovou, Maria, 2001. "Fertility and female labour supply," ISER Working Paper Series 2001-19, Institute for Social and Economic Research.
  6. Griliches, Zvi & Mason, William M, 1972. "Education, Income, and Ability," Journal of Political Economy, University of Chicago Press, vol. 80(3), pages S74-S103, Part II, .
  7. Alan Krueger & Orley Ashenfelter, 1992. "Estimates of the Economic Return to Schooling from a New Sample of Twins," NBER Working Papers 4143, National Bureau of Economic Research, Inc.
  8. James J. Heckman, 1995. "Instrumental Variables: A Cautionary Tale," NBER Technical Working Papers 0185, National Bureau of Economic Research, Inc.
  9. Susan Harkness, 1996. "The gender earnings gap: evidence from the UK," Fiscal Studies, Institute for Fiscal Studies, vol. 17(2), pages 1-36, May.
  10. Card, David, 1999. "The causal effect of education on earnings," Handbook of Labor Economics, in: O. Ashenfelter & D. Card (ed.), Handbook of Labor Economics, edition 1, volume 3, chapter 30, pages 1801-1863 Elsevier.
  11. Orley Ashenfelter & David J. Zimmerman, 1993. "Estimates of the Returns to Schooling From Sibling Data: Fathers, Sons and Brothers," NBER Working Papers 4491, National Bureau of Economic Research, Inc.
  12. Colm Harmon & Ian Walker, 1997. "The Marginal and Average Returns to Schooling," Keele Department of Economics Discussion Papers (1995-2001) 97/07, Department of Economics, Keele University.
  13. Meghir, Costas & Palme, Mårten, 1999. "Assessing the Effect of Schooling on Earnings Using a Social Experiment," SSE/EFI Working Paper Series in Economics and Finance 313, Stockholm School of Economics.
  14. John Bound & David A. Jaeger & Regina Baker, 1993. "The Cure Can Be Worse than the Disease: A Cautionary Tale Regarding Instrumental Variables," NBER Technical Working Papers 0137, National Bureau of Economic Research, Inc.
  15. David Card, 1993. "Using Geographic Variation in College Proximity to Estimate the Return to Schooling," NBER Working Papers 4483, National Bureau of Economic Research, Inc.
  16. Harmon, C & Ian Walker, 1995. "Estimates of the economic return to schooling for the UK," IFS Working Papers W95/12, Institute for Fiscal Studies.
  17. Lorraine Dearden, 1998. "Ability, families, education and earnings in Britain," IFS Working Papers W98/14, Institute for Fiscal Studies.
  18. Smith, Richard J & Blundell, Richard W, 1986. "An Exogeneity Test for a Simultaneous Equation Tobit Model with an Application to Labor Supply," Econometrica, Econometric Society, vol. 54(3), pages 679-85, May.
  19. Colm Harmon; & Ian Walker, 1995. "Estimates of Economic Return to Schooling in the UK," Economics, Finance and Accounting Department Working Paper Series n540195, Department of Economics, Finance and Accounting, National University of Ireland - Maynooth.
  20. Pagan, Adrian, 1984. "Econometric Issues in the Analysis of Regressions with Generated Regressors," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 25(1), pages 221-47, February.
  21. Heckman, James J & Ichimura, Hidehiko & Todd, Petra, 1998. "Matching as an Econometric Evaluation Estimator," Review of Economic Studies, Wiley Blackwell, vol. 65(2), pages 261-94, April.
  22. Arellano, Manuel & Meghir, Costas, 1992. "Female Labour Supply and On-the-Job Search: An Empirical Model Estimated Using Complementary Data Sets," Review of Economic Studies, Wiley Blackwell, vol. 59(3), pages 537-59, July.
  23. Griliches, Zvi, 1977. "Estimating the Returns to Schooling: Some Econometric Problems," Econometrica, Econometric Society, vol. 45(1), pages 1-22, January.
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