Monday, May 31, 2010

The Mystery of Exchange Rates

Lately I have come across a number of articles about how difficult it is for Latvia (the country where I served my mission) to keep its currency, the Lat, pegged to the Euro. That is, they maintain a constant exchange rate between Lats and Euros because they want to show that they are ready to be a part of the European monetary union. Latvia is often contrasted to the Czech Republic, which has its own currency and is responding better to the economic downturn.

So the mystery is, why does it matter if your currency has a floating exchange rate? Currency is just a symbol of the value of goods, so does it really matter if you say that a loaf of bread costs one Lat, two Lats, or one Euro? It is the relative value of goods and services that matters, not the value of the currency. That is, in a perfectly efficient economy it wouldn't matter. So I decided to investigate what kind of inefficiency would lead to problems with having the same currency (or a pegged currency) as everyone else around you.

After a little thought, the answer I cam up with is that the only reason a floating exchange rate is easier is that it is difficult for an economy to deal with deflation. Every national economy produces some goods for export (foreign investment in local property acts similarly to exports) and they produce some goods and services for the local economy. During a major recession there is a lot of recalculation going on about the relative value of different goods. For example, notice that in the US the price of a home in Las Vegas has gone down a lot more than the price of watermelons. Many of the products of Latvia have gone down in value as well. In particular, there used to be a lot of foreign investment in Latvian property. Now, like homes in Las Vegas, commercial real estate in Riga is impossible to sell.

When a lot of people want to invest in Latvia, it directly increases the value of exports (and foreign investments), which gives Latvians more money, which increases the demand for goods produced for local consumption, which eventually leads to higher wages and a higher standard of living for everyone. The problem is that when demand for the exports falls, it is very hard to reverse the trend. Latvians goods are too expensive because Latvians are paid according to how much people used to value their products. Now that the exporters aren't making any money there is less demand for local goods. But local producers are still paid a lot, too, so everything in Latvia is overpriced. It is hard to lower prices because the workers are locked into high paying contracts. If you lower the prices you will be selling at a loss. In other words, inflation is easy when the economy is doing well because people like to see an increase in wages, even if it is offset by an increase in the cost of goods. But deflation is hard because people won't stand for a decrease in wages even if it is offset by a decrease in prices.

The only thing for businesses to do in this situation is go under or start firing employees who aren't locked into overpriced contracts. Unemployment goes up, which further reduces demand, and the problems get worse.

So how can a floating exchange rate help? It makes deflation easier because instead of paying people a smaller amount of currency you just make the currency worth less. In the Czech Republic, if foreigners stop investing or buying exports, they don't need as much czech currency (the Koruna). But since other people aren't buying Korunas their value goes down relative to the Euro and all of the sudden it is as if all Czech workers get a massive pay cut and they don't even realize it. It doesn't even bother them as long as they buy local goods. They just have a hard time buying things from other countries. But this deflation makes exports more attractive and imports less attractive, which in turn starts to improve demand for Czech goods both at home and abroad.

So in resolving this mystery I thought to myself: why should it stop there? What if every firm had its own currency? What if prices at Target were in Target Bucks, and Target employees got paid in that currency as well? The banks could make the process of shopping relatively easy. When you pay with your credit card the bank automatically buys however Target Bucks you need to cover the transaction. Then people could watch the exchange rates, and if the value of Target Bucks goes down everyone will go there to get cheap goods. And they can stay cheap until demand goes up because Target employees are paid in kind.

The advantages to this system would be the same as the advantages of countries having their own currency. When the economy recalculates the value of what a company is producing, both the prices and wages of that company are automatically adjusted. Management doesn't have to do a thing, they just sit back and let the market exchange rates take care of everything.

The problem with this scenario is that employees probably wouldn't stand for it. Paying Target employees in Target Bucks makes them assume some of the entrepreneurial risk of the company. If they wanted entrepreneurial risk they would have become entrepreneurs, not employees. So they will probably demand payment in a more stable currency, which will undermine the whole point of having a firm specific currency in the first place. Employees of Target probably aren't as willing to survive on Target products alone as residents of the Czech republic are to rely on local products of that country.

Sunday, May 30, 2010

The Calculus of Emotions

I am a big believer of the idea that we can be the master of our own fate. While we can't control our environment completely, we can control our own reactions to it. But there is one big problem with this theory: when everything is going wrong and we feel like crap it seems impossible to just cheer ourselves up by sheer force of willpower. It is often the case that when we feel the worst we are also in a state when we don't have the will to do anything about it.

So, being the nerd that I am I have come up with a mathematical theory of emotion. Actually, it is more of an analogy that will mostly appeal to mathematicians.

To introduce the idea I want to start with the image of driving a vehicle. The point of driving is to get from point A to point B, but when you get into the car you can't just push a button that says "Point B" and immediately warp to that location. All you have is a few basic controls including an accelerator and a steering wheel. These controls don't change your position directly. In fact, they don't even change your velocity directly. The only thing you have control over is your acceleration (the steering wheel creates a force that accelerates you to one side). When you use these controls, the acceleration you create gradually changes your velocity, which in turn moves you from point A to point B.

So what does this have to do with our emotions? Our emotions reflect two things: how we like our circumstances and whether we think they are improving. That is, we have an emotional map of where we would like to be and a speedometer to tell us if we are moving forward. But as with driving a car, I don't think we have direct control over either our immediate circumstances or the rate at which they are improving.

I think we have more control over the rate at which our life is accelerating. When we make life improving decisions, circumstances will not change immediately any more than our position changes immediately when push on the gas pedal. In math terms, this means that our control is over the second derivative of our emotions. I think that part of the frustration we experience when trying to exert control over ourselves is that we expect immediate results. In reality, even the rate of improvement doesn't change immediately.

If we find ourselves frustrated by circumstances, we should not compound our misery by feeling bad about the fact that we can't control our emotional reaction them. A better strategy is to accept our situation along with our emotional reaction to it as Point A and choose actions that will accelerate us toward point B. Then we might temper our disappointment with hope that things will soon change for the better.

Wednesday, May 26, 2010

What to Think About Teachers Unions?

A few weeks ago Mercedes and I were listening to a debate on whether unions were a major obstacle to school reform. The message of the unions was that the only purpose of a union is to give teachers the tools they need to be effective. The other side, consisting mostly of school reformers, insisted that the interests of teachers are not always in line with the welfare of students. So who should we believe? In short, the reformers.

Looking on the Utah Education Association's website, you can find that they have four major objectives, listed in order:
  1. Advance the well-being of members
  2. Strengthen the teaching profession
  3. Engage in meaningful partnerships that promote quality public schools
  4. Build Organizational capacity

Although it is clear that most teachers want their students to do well, it should also be obvious that the well being of teachers is not equivalent to a good system of education. I read an
interesting article yesterday about a unionized bus driving force. One of the most common reasons that bus drivers stated for taking paid leave was that they had been spit on by passengers. After each incident, the victims took an average of 64 days of leave.

The union official explained that "Being spat upon ... is a physically and psychologically traumatic experience. If transit workers are assaulted, they are going to take off whatever amount of time they are going to take off to recuperate."

Sure, being spat upon is traumatic. But 64 days of leave?? One person actually took 191 days off after a spitting incident. Although this wasn't a school union, it is an example of how zealous union officials can end up defending indefensible practices in order to "advance the well-being of members."

I am not going to spend time on the second mission because it is nebulous, so lets move on to number three: promote quality public schools. This would be a noble goal except for one thing. It is not clear whether the main objective is to make public schools better or to make sure public schools are the only option.

The National Education Association's position on charter schools is basically that "we know we can't snuff them out but they should only be allowed to exist on our terms." These terms include the following:

  • A charter should be granted only if the proposed school intends to offer an educational experience that is qualitatively different from what is available in traditional public schools.
  • Local school boards should have the authority to grant or deny charter applications; the process should be open to the public, and applicants should have the right to appeal to a state agency decisions to deny or revoke a charter.
  • Private schools should not be allowed to convert to public charter schools, and private for-profit entities should not be eligible to receive a charter.
  • Charter schools should be subject to the same public sector labor relations statutes as traditional public schools, and charter school employees should have the same collective bargaining rights as their counterparts in traditional public schools.

That is, we don't want charter schools that actually compete with public schools, we want our folks at the school board to have the power to suppress them, we don't want any private competition, and they must be unionized.

The fact is that unions oppose charter schools because charter schools are not unionized. Which brings us to the fourth mission of the UEA: make the UEA bigger. Although it isn't any secret that unions want to increase their own power, it is interesting that is part of their mission statement. It is as if in addition to "promote the general welfare" the founders had included "dominate the whole continent" as part of the justification for the constitution.

But lets move on from the UEA's mission statement to a few other things of interest on their website. For example, we can find the UEA's position on reproductive rights. Wait...the UEA has a position on abortion?? Why would they possibly need a position on abortion? But it gets even better. They start out by stating that they do not have a "pro abortion policy" and then in the next sentence admit that they do support "reproductive freedom." I don't really have anything more to say about this other than I am surprised that they choose take a position on the issue.

Another point of interest in the FAQ section of the UEA's website is a section on why they defend bad teachers. They give four reasons. First, the government shouldn't have the power to fire people without cause. Second, teachers are subject to unjust accusations from students and their parents. Third, teachers might get punished for giving athletes fair grades (seriously, that is their third reason). Finally, they might have a personality conflict with the principle that results in unfair evaluations.

The fact that it is difficult to fire bad teachers is one of the poster problems attributed to teachers unions, but the reasons they give are interesting ones that deserve some thought. So let's think about them.

To begin with, I agree that we need to limit the power of government and it would be a bad thing if government jobs were given out based on patronage, etc. etc. But the union argument amounts to stating that we need an inefficient public school system because if we tried to make it efficient it would give the government too much power. Does this strike anyone else as a bit obtuse? Why not just privatize the industry so that we can have limited government and an efficient school system? Well, because that would probably interefere with some other union objectives.

The other three reasons given basically amount to an argument that sometimes good teachers are labeled as bad. We don't want to throw the baby out with the bath water, so let's just put up with bad teachers. Wrong! It is better to fire a few good teachers than put up with a few bad ones. Principles should be accountable for having good teachers, so if they fire their best they will pay the consequences. But to make it impossible for them to choose which teachers they supervise completely emasculates them, and results in a system where they can't really be held accountable.

In conclusion, when thinking about teachers unions we should keep one thing in mind: there are many cases where the interests of teachers conflict with the goals of the education system. Unions only represent the interests of a subset of teachers (plus retirees) as well as their own institutional power. Improvements to the system that are consistent with their interests will be supported, but any reform, regardless of how effective, that threatens these interests will be opposed.

Saturday, May 22, 2010


The central issue in my discussion of public school tuition was whether parents ought to be responsible for educating their own children or whether the public ought to pick up the tab. The proposal to equalize of property tax revenue across school districts raises a similar question: whether the public has a responsibility to fund schools across the state or whether the responsibility should be kept local.

The issue has had special relevance in our area since the creation of Canyons School District. Those areas that remained within Jordan School District boundaries have higher growth and lower property tax income than those in the new district. Currently, Canyons is required to send several million dollars a year to help out Jordan. Other Salt Lake County districts do as well. But a proposal to make Canyons give much more money was defeated in the legislature during the last session.

The system of using property taxes to fund local districts is a compromise between making people pay for the services they receive and making the public pay for public benefits. Unfortunately, it is the kind of compromise that achieves the worst of both worlds. The problem is that most of the public benefits of education are not that local. While it may be true that a significant portion of the children who grow up in Utah will stay in Utah and benefit Utah's economy it is a stretch to say that most of the kids educated by Canyons School District will remain with the district's boundaries throughout their career.

Parents who live within district boundaries obviously want better schools and are probably willing to pay higher taxes to fund them. But there is no obvious reason why people without school age children should subsidize the kids in their district boundaries but not the ones across the valley or in in other parts of the state.

When people talk about property tax equalization, they are usually referring to one of two basic standards: either 1) attempting to ensure that taxpayer equality by making sure districts that choose an equal tax level get an equal amount of funding per child, or 2) trying to ensure equal educational outcomes by distributing more tax dollars to areas where it costs more to educate the children.

Both of these standards typically involve sending money from areas with high property values and/or few children to areas with low property values and a lot of children. But the second standard also involves additional subsidization of districts with special needs children, such as those in rural areas that need busing or those with high numbers of ESL students. Although the latter standard seems to make a lot of sense, I think it needs to be tempered by the principle that people who want better education for their own children should be able to pay additional money to get a better education. It is one thing for the state to adopt a policy that ensures a basic level of education for everyone and another to create a system where it is difficult for people to get anything more than a basic education.

One of the problems with equalization of property tax dollars is that it undermines support for education funding in general. As I discussed in my previous posts, people don't want to pay for the education of other people's children as much as they want to pay for their own. In a system where taxes raised in a district stay there, local parents will usually advocate keeping the tax rates high enough to fund good schools. When the money is distributed across the state even those people with children don't want to pay high taxes.

I believe that since the public benefits of education are widely distributed across the state it makes more sense to equalize the distribution of property tax dollars according to the standard of ensuring a basic education level for each child (the second standard). However, I also believe that families that can afford it should bear more of the responsibility of educating their own children. But rather than doing this by keeping property taxes local I think we should have a hybrid system of taxes and tuition whereby everyone in the state is required to pay the costs of giving every child a basic education, but where local districts are encouraged to charge tuition or fees to families above a certain income level if they want to have more extra-curricular activities or anything above the basic standard set for the state.

Some people might complain that this will result in a two-tiered system where schools in rich areas have better schools than those in poor areas. But this is already the case. The difference is that it will be the wealthy parents who pay for it, while the tax dollars from wealthy non-parents will be distributed evenly across the state.

Monday, May 17, 2010

Self Confidence

I want to take a break from talking about education to discuss something else that has been on my mind recently: self confidence. I believe that faith in ones self is the foundation of happiness. If you are at peace with who you are, you can always come to terms with your circumstances.

With that in mind I propose that there are three basic components to self confidence:
  1. The sense that you are needed.
  2. The sense that you are capable.
  3. The sense that you are worthy.
People are social animals, and it is difficult to be fully satisfied with yourself if you do not feel loved and needed by those around you. This feeling is often highly dependent on external stimulus. Perhaps some people feel secure in their relationships by nature, but it helps if there are some indications of your importance to others.

I am including in the "needed" category both personal relationships and general status within society. Status is important because if we feel that others needs As with the sense o then we can be confident that it will support us in the ways that we need them. To some extent this is true with personal relationships, but some of the most important personal relationships we have are asymmetric. That is, some people need us a lot more than we need them. I am mostly referring to children. For many people, the fact that children rely on them is a great motivator.

Although being capable is closely related to being needed, they are not the same. For one, it is possible to feel that although a lot of people depend on you that you are not up to the task. On the other hand, it is possible to feel that although you have little status within society you are capable of satisfying your own needs.

As with the sense of being needed, the feeling of being capable depends to a great extent on what we have observed. People are faced with a great number of tests and challenges, and we eventually come to a sense of how well we deal with them. Of course, there are a huge number of different ways that we can be capable. For example, a person may be very good when it comes to athletics, but struggle with academics. But I think that each area of competency adds to a general sense that we can accomplish whatever it is that we need.

The final aspect of self confidence is the sense that you are worthy. In my opinion this is the most difficult to define or quantify, but also the most important part of self confidence. If something is worthy it means that it has value. But I am not referring to our value to other people. That falls under the heading of being needed. By feeling worthy I mean that we value our own happiness. That is, we think that we deserve to be happy.

No external observation can ever really answer the question of whether we deserve to be happy. We each have our own desires, but believing that we are absolutely right to pursue them takes a leap of faith. I believe that the feeling of worthiness is inherent in our nature, but that certain ideas can interfere and make us question our very right to live.

For example, some religions teach the idea of "original sin." They declare that we are evil by nature, and that only through some miracle made available through them can we be worthy. This is rather disturbing to me, as I always believed that each person is inherently valuable to themselves, and that even if we have offended God we are still right to pursue our own happiness. Perhaps God is key to helping us to get what we want, but He is not necessary to justify what we want. On the other hand, I think that for many people it is very comforting to think that they are worthy in the eyes of God and their faith in Him can buttress their belief in themselves.

When I have a crisis of confidence, it is sometimes helpful for me to take a step back and analyze my situation in terms of these categories. In Cartesian fashion, I begin with what I take as self evident. Even if I don't feel very motivated at the moment, I always know that I have latent desires and values the pursuit of which can make me happy. I also take it as an absolute that I am worthy of pursuing them. After that, my mind turns to the question of whether I am capable of achieving my goals. I usually conclude that even if some of my objectives seem out of reach, there is always something I can do to make progress toward one of them.

Having determined to move forward with my life, I consider how my decision relates to those around me. Actually, the welfare of other people (such as family) has already come into consideration because it is an important personal value. But I must also consider how my abilities, combined with my status in society, can help me achieve what I want.

Years ago my mother started to become interested in some form of Eastern philosophy and I remember her talking about how she had decided to adopt a "mantra" that she could chant to herself as part of her spiritual transformation. At the time I thought this was pretty cheesy, and though I am still a bit skeptical of Westernizations of Eastern philosophy, I have come to realize that I have certain mantras myself. Well, I may not even know what a real mantra is in Hindu thought. What I have are certain patterns of thought that I repeat to myself in order to cope with challenges and bring myself peace. One of these mantras is: I am worthy, I am capable, and I am needed.

(This may remind you of Stuart Smalley's affirmation, "I'm good enough, I'm smart enough, and doggone it, people like me"...ok, I admit it, I learn my most important life lessons from watching Saturday Night Live)

Wednesday, May 12, 2010

Who Should Pay for Children?

Some of the discussion about my last several posts got me thinking more deeply about the question of who should bear the cost of raising children. One of the premises that formed the basis of my argument that parents should pay tuition was that parents have a greater interest in the education of children than society at large. I want to subject that premise to greater scrutiny.

I am going to assume that it is expensive to raise children. In certain periods of history children were an economic asset, but I think it is clear now that they are a liability. I think this is one explanation for why people have fewer children in developed societies (the other is better access to birth control). As society becomes more sophisticated, it takes more and more resources to raise kids. Not only do they need a lot of education, they require more expensive food, medical/dental/orthodontic care, and entertainment. But education is one of the most significant costs.

I am also going to assume that parents are responsible for the number of kids they have. Some kids may come on accident, but parents are responsible for that accident.

So parents are responsible for having kids, but does that make them responsible for bearing the costs of raising them? I can think of several ways to answer this question. First, we could argue that the responsibility for having kids naturally extends to raising them. Second, we could divide responsibility based on who values children emotionally. Third, we could base responsibility on who benefits economically.

So let's talk about the first answer. Even if other people care about kids or benefit from having a lot of well mannered young people in society, only the parents had the freedom to decide whether a particular child would be born. It seems unjust in a free society to make people pay for something they did not choose to have, even if it benefits them. Based on the principle that people are responsible for their own choices we would conclude that parents should bear the cost of raising children.

Evolutionary biology teaches us that many of our desires can be explained in terms of how different behaviors will promote the propagation of our genes. Sexual desire is easily explained in this manner, and so is the love for children. Humans are born in a pretty helpless state, and they need a lot of parental attention. So parents naturally have a desire to give them that attention. This is particularly true of women. Some men probably genetic strategies that focus more on quantity than quality.

Our natural love of children extends to children that are not ours, but it is a bit attenuated. Social expectation also probably contributes to the sense of responsibility that people have for their own children. In any case, I think it is safe to say that most parents have a pretty strong sense of responsibility for their children and that to some lesser extent we all care about children everywhere.

The best way to determine exactly how much we care about the education of other people's children would be to remove all taxes and see how much people donate to charitable organizations dedicated to that cause. This is not likely to happen, but my guess is that the result would be somewhat less public funding for education than we have now.

The third way to answer the question is to try and quantify the economic benefit that people receive from educating children. There are several things to take into account:

People with better education earn more money over the course of their careers. The census bureau estimates the value of a high school education at about $250,000 and a bachelors at about $1,000,000. Of course, even dropouts typically have some education, so the $250,000 number reflects the advantage that a high school graduate has over someone with about 6-10 years of education. So let's just say that the benefit to an individual of the whole k-12 education is about $500,000. (Note: the biggest jump comes from having a professional degree, which adds about $4,000,000 more to lifetime earnings)

Businesses benefit from having a skilled work force, and everyone benefits from having good business. This one is a lot harder to quantify. First, business benefit from having good employees but they also pay quite a bit to get those employees. So a lot of the benefit that comes from having skilled employees goes to the employees themselves as discussed in the previous paragraph. Also,some businesses need employees with all of the skills taught in high school or college, but much of what it takes to be a "skilled employee" comes from on the job training or experience. However, I am going to make a rough approximation of the value of education to business by estimating that about half of the value of an education goes to the individual and about half to their employer. This is usually a reasonable assumption when you have two parties with equal bargaining power coming to an agreement. It is not at all clear that businesses and employees have equal bargaining power but I am going to ignore that problem. So for the sake of this discussion, let's say the business community benefits about $500,000 from the k-12 education of each child.

Parents also benefit somewhat from having financially successful children. Those children will provide for them in old age. These days the responsibility for enforcing the duty that one generation has for the next has been assumed by the Social Security Administration (and the Medicare Administration). Unfortunately, the amount of money that retirees receive seems to be very loosely related to how many children they raised and educated. Baby boomers seem intent on getting the same level of benefits as their parents despite raising far fewer children. This could eventually be the cause of the financial meltdown of our whole country. In any case, social security is worth about $225,000 for the typical retiree, and Medicare is probably worth about the same. So total retirement benefits are about $500,000. How much of this should be attributed to k-12 education? This is very hard to estimate, but I am going to say $125,000. My estimate is based on the idea that the net tax rate for social security is 12.4% (of the first $106,000, including both employee and employer portion) and that state and federal Medicare amounts to approximately the same amount. Thus, about 25% of any increase in lifetime salary goes to seniors. However, since this amount is collected by the government and redistributed the benefit people receive is mostly from other peoples children, not their own. (No one try to tell me that people pay for their own retirement benefits. This is not how our government works. Current workers pay for current retirees.)

I have also heard people mention that property values go up around good schools, but I am going to disregard this "benefit" because I think it is really just a reflection of the fact that good schools benefit children. Parents are willing to pay more to live near a good school because they think it will be better for the kids. But that benefit is already captured in the individual lifetime salary increase. Another thing I am going to ignore is any potential decrease in the crime rate that comes from educating kids. This may be a real benefit but it is very speculative and would be extremely difficult to quantify.

So that is all of the estimation I am going to try and do, but I would like to make a few comments before deriving any conclusions. The first is that although government actually does collect and redistribute retirement benefits, and this fact does affect our calculation of who should pay for the education of children, it is not self-evident that society ought to be this way. There is a difference between asking who should be responsible for educating kids in our current society and who should be responsible in a perfect world. To answer the latter question we would first have to answer the question of who should be responsible for retirees.

The second comment I need to make is that some of the value of education comes from being capable of doing a good job, and some comes from simply being able to signal that you are smart. It is possible that what employers really want is smart people, and if we didn't have any education at all they would be just as happy as long as we had an IQ test or something to determine who they should hire. This does not mean that education is any less valuable to individuals, since signalling that you are smart is really important. But it does call into question to overall value of education to society.

The final comment I want to make is that there is a long delay between the education of a child and the benefit that comes to society. So it makes sense to say that today's worker should pay for the education of today's children because the worker will be tomorrow's retiree. But it makes a little less sense to say that todays businesses should pay for today's children, because it will be tomorrow's businesses that will benefit from having the skilled work force. Then again, today's businesses benefited from yesterday's education. In any case, despite the fact that I am skeptical of pay-it-forward reasoning, I am going to ignore the problem for now because it is too complicated.

Ok, so with all of this in mind I am simply going to lump businesses and retirees together and call them society. According to my very rough estimates, individuals benefit by about $500,000 from k-12 education and society (assuming a redistributive retirement system) benefits by $625,000. Surprise! Surprise! My rough, back-of-the-envelope calculations lead to the conclusion that society should care more about the education of children than children themselves, let alone their parents.

So, I started out with three potential methods of determining who should pay for children. The first two methods imply that parents should bear most of the burden because are responsible for the kids being there in the first place and they care the most about their own children. But in terms of economic consequences, it seems like society might benefit as much or more than individuals.

Does this undermine my original premise? Not necessarily. We must take two things into account. If our goal is to improve education the relevant question is not so much who ought to pay but who is willing to pay. That is why my assumption was that parents do value the education of their own children more, not that they ought to value it more. Also, we have not really addressed the question of how these values change when more and more children are involved.

My original post about tuition began with the idea that Utah has a difficult time funding education because we have so many kids. The value of education to a child shouldn't really depend on how many children the average family in their state has, but it is not at all difficult to image how the benefit to society might not be proportional to the number of kids. But this post is too long already, so let's leave it there for now.

Monday, May 10, 2010

Some Tuition Examples

Currently Utah has an income tax rate of 5%, which funds higher education and public education. Public education accounts for about 75% of the expense, and higher education accounts for 25%. Income taxes pay for about 65% of public education, with federal grants and property taxes accounting for the rest. Total money spent on public education is $3.5 billion, for 564,000 students. So $2.3 billion, or about $4,000 per student comes from income taxes. (Property taxes mostly pay for new schools).

The Utah constitution requires that primary education be provided for free, so let us consider for a moment a plan that only requires students grades 7-12 to pay tuition. Also, lets assume for a moment that income and family size are not correlated (larger families actually make more on average, but not by too much). The median income in Utah is about $65,000. In this plan, everyone below the poverty level would receive their education free. Everyone above the median would pay $4,000 a year. People in between would pay a graduated amount.

We can average this so that half of the students would be paying about $2,000 a year, and half would be paying $4,000. All together the average would be $3,000 per year for students grades 7-12. This would raise about $800 million dollars. Now suppose that $200 million was reinvested into the schools and taxes were reduced by $600 million. This would mean an increase in the education budget by almost 10% and a reduction in income taxes by almost 20% (from 5% to 4%).

A family making $50,000 per year with one student in grade 7-12, would be paying about $3,000 in tuition and their income taxes would be reduced from $2,500 to $2,000. That is, they will be worse off by $2,500 per year. With two students of that age they would be paying $5,000 per year more. (Of course, remember that part of the additional cost is paying for an increase in the education budget).

A family making $250,000 per year with one student would pay $4,000 per year in tuition and their taxes would be reduced from $12,500 to $10,000. They will be paying $1,500 more per year in tuition than taxes. The break even point would be a family that makes $400,000 per year with one child in the relevant grade level. Families with more income would save even more money. Every family without children (as well as families with younger children) would save money.

The biggest opposition to the plan would probably be from middle class families with multiple children. It could be really hard on them financially because they have become so used to a massive education subsidy. When a significant part of society becomes accustomed to receiving subsidies from others it is nearly impossible to wean them off.

Saturday, May 8, 2010

Why Utah's Public Education is Mediocre, and What to Do About It

Utah families have more children on average than any other state.

This widely quoted fact by itself does not explain why Utah spends less per child on education than any other state. The fact that Utahn's have a lot of children is a result of the value that we place on family. Thus, it is not obvious why we should be spending less on each of our children. Nor is the reason that Utahn's don't value education. We know that without a world class education our children will not be able to compete in a global economy.

The reason that Utah spends less on education (and therefore achieves mediocre results) compared to other states is that education is funded almost entirely by taxes. Let me begin my explanation by laying down two basic premises:

First, although universal education provides significant value for the whole society, the benefits that accrue to each individual from their own schooling are even greater. Furthermore, while the private benefits are directly proportional to the number of children being educated the public benefits are not.

Second, people don't like to pay taxes to fund the private benefits of others (especially in a conservative state like Utah).

Consider a simple example involving two states, Alpha and Beta, that each have a tax paying population of 1,000. Aplha has 100 school age children and Beta has 200. In each state the benefit that each person receives from living in a society with highly educated people is $1,000 per year. A year of education is worth $12,000 to the individual in school.

If education is funded entirely through tax dollars, the residents of Alpha should be willing to pay $1,000,000 per year or $10,000 per child. In Beta, they are also willing to pay $1,000,000 in taxes annually which comes to only $5,000 per child. At first this seems to reinforce the idea that having more children leads to less education spending. But consider what would happen if education were funded privately. The individuals (or their families) would be willing to pay up to $12,000 annually.

The amount spent per child on education is only dependent on the number of children if education paid for with taxes. In a free market, the amount spent would depend on individual demand. Since Utah has a lot of children, the state constitution guarantees free public education, and people are very hesitant to raise taxes we are destined for mediocrity. Under the status quo, if we want to increase the amount of money invested in education we have to convince the whole state to raise taxes.

So what can we do about it? One solution is to require families that can afford it to pay tuition.

The fact is that Utah families care about the education of their children. But the policy of paying for the education of every child actually discourages people from investing as much in education as they want to. How? Suppose a middle class family with one child pays $5,000 a year in property and income taxes. The local public school provides an education that would be valued at about $4,000. (The taxes are higher than the value of the education in this example because some of the money goes to subsidize people who pay very little in taxes.) A private school nearby charges $6,000 annually and is worth $7,500. To attend the private school, the family must pay $5,000 in taxes plus $6,000 in tuition for a total of $11,000. But the marginal value of their education only increased by $3,500.

Now imagine that public schools were funded partially through tuition. The family would have to pay $1,000 in taxes to subsidize the less fortunate, and $4,000 to attend the public school. If they chose instead to attend private school they would only have to pay $2,000 more (a total of $7,000 if you include the reduced tax liability) for an increase of $3,500 in value. They would be no worse off if they chose to stay in public school but those who wanted to invest more would not be encumbered by the existence of a "free" alternative.

Charging tuition for public schools does not only remove economic barriers to investing more money in education. Other positive effects include:

  • Reducing taxes. One of my basic principles is that it is wrong for government to tax people in order to buy them something they could pay for themselves.

  • Providing additional income for public schools. Although some of the revenue from tuition would be offset by reduced taxes, some will also go to improving the schools. If fewer students are being completely subsidized it will be easier to spend more money on those students that need subsidies.

  • Giving parents more freedom to choose how their children are educated. Sure, people can choose between a number of alternatives in the current system but the economic barriers lead to practical restrictions on free choice.

  • Encouraging parents to get more involved in their child's education. The fact that the state provides free education for everyone may lead some parents to feel that education is not their responsibility. But any teacher will attest to the importance of parental involvement.

  • Promoting healthy competition between public and private schools. If parents can choose where to spend their education dollars, educators will have to provide a good service to compete with other schools.

So how much money would we need to charge? Currently Utah spends only about $6,000 per student each year on education. Some families could afford to spend that much, but others would need some help. Only about 10% of Utahn's live below the poverty level and they should probably receive a full subsidy. People above the median income should probably be paying for the education of their own children. Those who fall somewhere in between could receive a graduated subsidy based on need.

Now let me address some of the potential objections to such a plan. The first is that it would place more of a burden on a lot of middle class families. This argument presupposes that it ought to be the responsibility of society at large to pay for everyone else's children. It is one thing for a society to value family, but quite another for us to expect other people's tax dollars to bear the cost of raising them. Ultimately, I believe parents should bear most of the burden of raising and educating their own children.

Another important question is whether additional investment in education will result in any significant improvement. Education spending in the United States has increased dramatically since 1980, but test scores have not improved much. Clearly it is possible to spend money inefficiently, but the real question is whether increased investment in education can make a difference when individuals have the freedom to choose how the money is spent. I believe it can. Increased investment is a necessary but not sufficient condition of bringing our education system up to an acceptable level.

A third issue is whether it is right to require people to educate their children if they have to pay for it themselves. This is a little like the question of whether the government should force us to buy health care. The difference is that the government already forces people to send their kids to school, but currently forces everyone else to pay for it. Even if parents did have to pay for tuition, they wouldn't be forced to send their kids to public school or any other school. they could choose to educate their children at home. Some parents probably would choose to home school their kids rather than pay tuition, so if you think home schooling is anathema the plan probably isn't your cup of tea.