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Inequality in Parental Transfers, Borrowing Constraints, and Optimal Higher Education Subsidies

Youngmin Park

No 623, 2018 Meeting Papers from Society for Economic Dynamics

Abstract: This paper studies optimal education subsidies when parental transfers for college education are unequally distributed across students and cannot be publicly observed. After documenting substantial inequality in the amount of parental transfers among American college students with similar observed family resources, I examine the implications of unobservable heterogeneity in parental transfers for efficient design of education subsidy policy that minimizes the distortions generated by borrowing constraints. When inequality in educational attainment is driven by differences in parental transfers, providing larger subsidy for lower level of schooling is optimal, because additional resources given to constrained students choosing low schooling levels reduce distortions. This force is weakened if unobservable heterogeneity in returns to schooling also leads to different schooling choices. To quantify these mechanisms, I build a model with endogenous parental transfers where inequality in parental transfers among students with similar parental economic resources and returns to education is determined by heterogeneity in parental altruism. The quantitative model is calibrated to the U.S. economy and used to solve for the optimal subsidy that may assign different amounts for each year of college and parental income quartile. The optimal policy subsidizes the first two years of college much more heavily than later years. The shift of public spending towards early years of college is more pronounced for higher parental income groups, generating little variation of subsidy amounts for the first two years of college across parental income.

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Date: 2018
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Working Paper: Inequality in Parental Transfers, Borrowing Constraints and Optimal Higher Education Subsidies (2019) Downloads
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