Taxes, Targeted Educational Subsidies, and Affirmative Action

Abstract

This paper shows how educational subsidies could address the inefficiency in human capital investment caused by income taxes. If the government cannot perceive individual wage profiles, it may approximate an efficient solution by targeting different subsidies towards exogenously determined groups. This policy provides an efficiency justification for educational affirmative action programs, which give greater subsidies to traditionally disadvantaged groups. The costs and benefits of a targeted subsidy program depend on how accurately exogenous factors can predict educational choice. Simulations demonstrate the impact of such a policy given realistic relationships between earnings and education.

Keywords: Educational choice, government subsidies, affirmative action

JEL Classification: H52, I22