Cargo Cult Development: Signaling in the upper echelons of higher education

Ecuador, my home country, is hell-bent on increasing the production of individuals with advanced degrees. Through highly (ridiculously?) onerous regulatory requirements, generous scholarships, and billions of dollars invested in higher education infrastructure, the self proclaimed socialist of the XXI century government has led a big push for higher education. Although the claim is grounded on the positive externalities of education and the formation of human capital as necessary for development, I have always wondered whether the big push for education is more like cargo cult development rather than genuine development. What the pacific islanders did not understand when they built their airstrips and waited for goods to fall from the sky, is that airstrips and the accompanying capital structure that produces goods are consequences of development and not their cause. It is fair to ask whether governments undertaking massive investments in education like building billion-dollar research sites are they making the same mistake.
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Of course the immediate reply by most economists is that education is not like cargo cult development because we can identify the mechanism behind such development, specifically in endogenous growth models. The logic is that increasing human capital, especially in advanced degrees, increases the production of knowledge that due to its non-rivalrous and partly non-excludable nature spills over the productive sector and raises productivity and standard of living for all. Thus the positive externality of knowledge justifies public investment in R&D in this case by subsidizing the production of individuals with more advanced degrees. After all the mantra of economic growth for a little over 20 years has been that the generation of ideas is the “real” driver of growth. While these arguments certainly help advance our understanding of the determinants of growth in broad strokes, they also point to the limitations of an institutionally barren production-function-for-the-whole-economy approach to growth (more on this to come).
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The signaling model of education presents a more immediate challenge to the big push for education policies. While not completely denying the human capital-forming role of education, the signaling model challenges the relative importance of human capital in education. The signaling model implies that there are negative externalities to subsidizing education. By lowering the cost of acquiring a degree, the signal of worker quality is degraded because more low quality workers get through the selection mechanism (obtaining a degree). A new signal is needed to separate between worker qualities, leading to more expenditure of potentially productive resources in a sort of arms race of higher education degrees. If education does not lead to great improvements in human capital but is driven by primarily by signaling instead, even if there are positive spillovers from knowledge, subsidizing education may not be such a great bet, especially since the contribution of the signaling mechanism is negative in social terms.
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I am very sympathetic to the signaling argument (Bryan Caplan makes a very convincing case) and I think they are often/mostly/always ignored by those making big push for advanced degrees policies, and shouldn’t be. However when I do manage to engage advocates of big-push-for-advanced-degrees, two arguments always come up against the signaling model.

1) Even if the formation of human capital is small relative to signaling it is still there, and low-income countries have much more to gain from small increases in human capital (which then leads to knowledge creation that spills over and increases productivity).

2) While signaling may play a large part in lower end (undergraduate degrees) degrees, in advanced degrees (doctoral degrees) it is mostly human capital and not signaling, thus government spending in advanced degrees is an investment in human capital (which then leads to knowledge creation that spills over and increases productivity).
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My partial objection to 2) is that human capital and signaling are potential explanations for the investment (present expenditure aimed at greater future income) aspect of education. But there is also a consumption (present expenditure aimed personal satisfaction) aspect to education. The more advanced the degree, not only does the human capital component (presumably) increase, also the consumption aspect of education increases as well. Why pay for something individuals will probably pay for themselves in search of their own satisfaction (and benefit us with all the great ideas that spill over from their activity, maybe)?
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A further interesting possibility with respect to 2) is given in this post on The Economist’s Free Exchange blog (based on this JEP paper). If advanced degrees are aimed at improving human capital that increase the productivity of those generating knowledge, a good proxy for human capital formation and knowledge creation in advanced degrees is the research productivity of graduates. The low productivity of economics graduates as Free Exchange notes can be interpreted as a sign that signaling is very prominent for those pursuing the most advanced degree in Economics. It would be very interesting to see research productivity in other disciplines as a test of the significance of signaling in advanced degrees in general.
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