Academic journal article Economic Commentary (Cleveland)

Government-Subsidized Training: A Plan for Prosperity?

Academic journal article Economic Commentary (Cleveland)

Government-Subsidized Training: A Plan for Prosperity?

Article excerpt

Analysts often maintain that without government subsidies, worker training in the United States is insufficient. But is it possible that firms' incentives are already in synch with the social costs and benefits of training?

Should the United States do more to increase its workers' skills? Many say it should, arguing that subsidized training helps countries maintain flexible, productive workforces in the face of techno logical change and global competition. As Commerce Secretary William Daley has noted, "We must ensure our nation has a highly trained workforce to capture the vast potential of information technologies."1 Industry trade organizations bolster this position by claiming that labor shortages in high-tech industries are critical.

This apparent shortcoming has led the Clinton Administration to propose several initiatives. The 1997 Balanced Budget Act established the HOPE scholarship fund, giving most working families a tuition tax credit of up to $1,500 per student for postsecondary education and training. Its purpose is to give workers an opportunity to develop new skills and to retrain.

President Clinton has also proposed creating the "best information technology workforce in the world" by financing computer-related and retraining programs to meet the "exponentially increasing demand for information technology experts."2 He also hopes to increase education by continuing to exclude from income the value of employer-provided educational benefits through the year 2000 and by providing a new tax credit for small firms that give such assistance. But is the present level of training really insufficient?

Investment and Training

It's hard to say whether there is already enough training, since the answer depends on how much future benefit more training is likely to yield. For example, if it costs $100 to give a worker training that improves his productivity by $10 each year thereafter, then the rate of return to training is about 10 percent.3 If the firm's cost of borrowing is less than 10 percent, then it should provide training, since only part of the training proceeds will go to pay off the $100 loan.

A rate of return higher than the cost of borrowing is a sign that training may be underprovided. Unfortunately, actual rates of return are hard to obtain because they depend on estimates of training costs and benefits. Expenditures on formal training, which is believed to yield the greatest benefits in terms of higher productivity, ranged from $30to $55 billion in 1989.4 Estimates of the rate of return for formal training were more precise, ranging from 16 to 36 percent annually.5

Estimated returns at both ends of this range substantially exceed the cost of borrowing, which suggests that the training level is inadequate. These estimates assume that workers remain with the same employer, but what about those who don't? If the skills they are taught are not firm-specific but portable across firms, then workers who leave right after they finish training would produce a zero rate of return for the firm. Accordingly, these estimates are meaningful only if a worker's increased productivity is the same whether he remains with the firm or transfers to another.6

Human capital theory separates worker education and training into two broad categories: firm-specific and general. General training can be applied to a wide variety of jobs and industries, but firmspecific skills cannot. If half the workforce leaves after firm-specific training, then the actual rate of return is half the estimated one. The impossibility of distinguishing clearly between firm-specific and general training makes calculating the rate of return even more problematic.

This Economic Commentary takes a different route, examining whether economic theory's projections about the optimal training level are in obvious disagreement with the facts. The answer boils down to whether firms' incentives to train workers align with the social costs and benefits. …

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