HOW DOES HUMAN CAPITAL AFFECT ECONOMIC GROWTH? pdf
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NATIONAL CHENG KUNG UNIVERSITY
Department of Economics
Master’s Thesis
How Does Human Capital Affect Economic Growth?
Advisor: Prof. Chun-Li Tsai
Student: Ming-Cheng Hung
June 2009
i
Abstract
Based on the empirical investigations and theory of endogenous growth, this paper
examines the role of human capital on economic growth from 118 countries over period
from 1980 to 2006. The first part of this paper classifies the education into primary
secondary and tertiary ones to test whether each educational level affect economic growth
differently, and attempt to uncover this different effect among different countries
development. Then, we focus on the composition of human capital that be categorized into
agriculture(agriculture), industry(science, manufacture), service(art, humanity, health,
society, service) types to find which types of human capital has the greatest impact to
economic growth and add the factor of country’s industrial structure to test whether the
growth effect of education depends on the coordination between country’s education fields
and its’ industrial structure of local economics.
Empirical result indicates three conclusions. First, tertiary education has the greatest
contribution to economic growth for all countries development. In particular, the
less-developed nations need more tertiary human capital to catch up with the
well-developed ones. Second, we find out that only the industry skill has positive
contribution to economic growth. Finally, as including the factor of development and
industrial organization, the human capital of industry skill only in developing countries,
and the nations with highly-profession guiding in industry has significant growth effect.
Keyword: economic growth, human capital
ii
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2009
iii
Contents
1. Introduction 1
2. Literatures Review 8
2.1 The human capital to economic growth 8
2.2 The other variables to economic growth 14
2.2.1 Investment, Fertility rate and economic growth 14
2.2.2 Government expenditures and economic growth 15
2.2.3 Openness and economic growth 16
2.2.4 Political structure and economic growth 16
2.2.5 Inflation and economic growth 17
3. Methodology and Economic model 19
3.1Methodology 19
3.2 Economic model 21
3.3 Data sources and usages 26
3.4 Descriptive Statistics 28
4. Estimation Results 31
4.1 The human capital to economic growth 31
4.1.1 the estimation result with whole data 32
4.1.2 the estimation result in different country development 37
4.2 The human capital allocation to economic growth 46
4.2.1 the estimation result with whole data 47
4.2.2 the estimation result in different country characteristics 48
5. Conclusion 55
6. Reference 57
7. Appendix 62
iv
List of Tables
Table 2-1: the previous literatures about the growth effect of human capital 13
Table 3-1: the predicted coefficient in control variables 26
Table 3-2: the data resource 28
Table 3-3: the descriptive statisticsfull sample 29
Table 3-4: the descriptive statisticscategorize by development 30
Table 4-1: the effect of human capital on economic growth 34
Table 4-2: the effect of human capital on economic growthfull sample 35
Table 4-3: the effect of human capital on economic growthwell-developed nations 36
Table 4-4: the effect of human capital on economic growthdeveloping nations 39
Table 4-5: the effect of human capital on economic growthless-developed nations 41
Table 4-6: the effect of human caital on economic growthcheck robust 43
Table 4-7: the effect of human capital on economic growthinclude dummy variable 44
Table 4-8: the effect of human capital on economic growthdifferent development 45
Table 4-9: the growth effect of human capital composition 51
Table 4-10: the growth effect of human capital compositiondifferent development 52
Table 4-11: the growth effect of human capital compositiondifferent industry
organization(1) 53
Table 4-12: the growth effect of human capital compositiondifferent industry
organization(2) 54
v
List of Figures
Figure 1-1: primary, secondary and tertiary school enrollment rate (1980-2006) 1
Figure 1-2: primary school enrollment rate (1980-2006) 4
Figure 1-3: secondary school enrollment rate (1980-2006) 4
Figure 1-4: tertiary school enrollment rate (1980-2006) 4
Figure 1-5: the framework of this study 7
Figure 4-1: cross-sectional relationship between primary education and growth (2000) 31
Figure 4-2: cross-sectional relationship between secondary education and growth (2000) 32
Figure 4-3: cross-sectional relationship between tertiary education and growth (2000) 32
Figure 4-4: cross-sectional relationship between agriculture skill and growth (2003) 46
Figure 4-5: cross-sectional relationship between industry skill and growth (2003) 47
Figure 4-6: cross-sectional relationship between service skill and growth (2003) 47
1
0
20
40
60
80
100
120
tertiary secondary primary
1. Introduction
High level of education is commonly seen as one of the major prerequisite of the
world’s current wealth, and as one of the major determinants of future economic growth
and development. In Fig.1-1, we present the world average enrollment rates
1
of primary
secondary and tertiary types that recognized as the different level of human capital
2
, we
find the enrollment rate increase continually from 1980 to 2006. It indicates that the
education becomes the more and more important resource and government policy all over
the world recently. Education also has numerous impacts on individual and social
development. According to Behrman, J. & Stacey, N(1997), the higher education will not
only contribute to economic growth but also has lots non-market effects and social benefits
such as improving people’s health, reducing mortality, decreasing crime activity and
mitigating wealth inequality.
The gross school enrollment rate
Figure 1-1: primary, secondary and tertiary school enrollment rate (1980-2006)
1
Total enrolment in a specific level of education, regardless of age, expressed as a percentage of the eligible
official school-age population corresponding to the same level of education in a given school year
2
primary, secondary, and tertiary education, which defined by UNESCO.
%
2
Regarding to the relationship between human capital and economic growth, Nelson
and Lucas(1966) recognize average educational attainment as an important factor to
technology, and they find the worker with high level of education has tended to adopt
productive innovations easily. Then according to the “new growth theory” such as
Lucass(1988) and Romer(1991), they added the variable of human capital into the growth
model and provided new ways of conceptualizing how human capital might contribute to
self-sustaining growth of per capita incomes. In term of previous literatures, the education
can increase the literacy rate and the labor’s productivity that can improve the efficiency of
using technology. In further, the higher level of education like university produces a lot of
researches that be an important resource of new idea and advances in knowledge. In
addition, the education also has other channels to economic growth. First, a spillover effect
that raises not only the productivity of those of receiving education but also the
productivity of those the work and interact with. Second, Katarina & Keller(2007)
demonstrate the indirect effect that education can reduce fertility rate and income
inequality, those can foster the economic growth deeply.
Empirically, many studies(Stephan,1997; Chatterji1998; Kwabena,2006) use different
indexes
3
of human capital and find the positive connection between higher education and
economic growth. However, the country’s development
4
is also an important factor to the
growth effect of human capital. According to Fig.1-2,3,4. that present the enrollment rate
in different development countries from 1980 to 2006, we find out the well-developed
nations have the highest enrollment rate in the primary, secondary and tertiary education
3
the previous studies mostly use enrollment rate, average year of school and public education expenditures as
the variables of human capital
4
According to the classification by IMF(international Monetary Funds)
3
.However, the primary enrollment rate growths sharply in less-developed nations and
catches up with the other countries’ level, but the tertiary education’s gap between well-
and less-developed nations becomes large gradually. Some literatures (Ruth Judson1998,
Petrakis,2002 ; Katarina & Keller,2007) discuss the relationship between education,
development and economic growth. They demonstrate the empirical work that the
education and development have the positive relationship and also suggest that the role of
primary and secondary education seem to be more important in LDC nations, while growth
in well-developed economies depend mainly on tertiary education. On the contrary, some
literatures (Chatterji,1998 ; Kwabena,2006) demonstrate the different outcome that LDC
nations need more tertiary education in order to foster the economic growth and catch up
with the other well-developed countries. Although there are no obvious theoretical issue
about the link between education levels and different developments, those studies indicate
that we can’t neglect the factor of country development as discussing the growth effect of
human capital. In contrast with previous literatures
5
that always use the average-period
data to discuss the issue about human capital and economic growth because of the missing
value and compounding the measurement error in the data by emphasizing errors related to
the timing of relationships, this paper uses unbalance panel methodology to solve the
problem of missing value and include the year-fixed effect to eliminate the time shock.
In recently, some literatures address some new idea about the education and economic
growth. Richard H. Mattoon(2006) finds the relationship between education and growth
5
Barro (1998) consider the average period data, 1965-75, 1975-85, and 1985-95 in order to eliminate the
missing value and accords with the growth theory, which do not attempt to explain short-run business
fluctuations. Therefore, the application of the theories to annual or other high-frequency observations would
compound the measurement error in the data by emphasizing errors related to the timing of relationships.
4
Figure 1-2: primary school enrollment rate (1980-2006)
Figure 1-3: secondary school enrollment rate (1980-2006)
Figure 1-4: tertiary school enrollment rate (1980-2006)
60
65
70
75
80
85
90
95
100
105
110
primary school enrollment rate
well-developed less-developed developing
0
20
40
60
80
100
120
secondary school enrollment rate
well-developed less-developed developing
0
10
20
30
40
50
60
70
tertiary school enrollment rate
well-developed less-developed developing
%
%
%
5
is not clear and addresses the conception that the best growth effect of education depend on
what colleges and universities have to offer and what is happening to the local industrial
structures of their economies. Kitagawa F.(2004) also demonstrates the important
connection between university and local industry.
According to the above-mentioned, they address two fundamental elements
influencing the growth effect of human capital: human capital allocation and countries’
local economics. With regard to the composition of human capital, the similar and
empirical literatures studied by Murphy et al(1991) and Tiago(2007) showing some
evidence that the students majoring in engineer in college have contribution to growth
greater than the students that major in another fields, Colombo and Grilli(2005) also find
the human capital from scientific and technical fields have significant positive effect to
firm’s growth. However, the previous studies only put emphasis on the composition of
human capital but they don’t include the country’s development and local industry dummy
into their growth model to examine this issue. The concerning literature studied by
Tiago(2003), which finds the nonlinear relationship between GDP per capita and S&E skill,
and concludes that the different country developments need different types of human
capital to support their local economics. Therefore our study considers the education
allocation and country’s local economics simultaneously in order to demonstrate whether
the relationship between education and economic growth depends on the field of human
capital and country’s characteristics
In conclusion, our paper has two issues about the education and economic growth.
First, we use panel data including 118 countries from 1980-2006. Differently to other
literatures, we use individual-period data not the average-period data to reexamine this
6
issue .Second, although previous studies have demonstrated the relationship between skill
allocation and growth, they don’t find this effect in different type of industry organization
and development. Therefore, we try to prove the conception of Richard H. Mattoon(2006)
and add the factor of industry organization and development to find whether the growth
effect of tertiary education depends on the country’s different characteristics.
The paper is structured as follow (Fig.1-5). Section I explain the motivation and
purpose of this study and address the contribution that different from other literatures.
Section II reviews the previous studies discussing the relationship between human capital
and economic growth. Section III then build the model and introduce our econometric
method first. Second, we explain our data selection and describe the definition and the
descriptive statistics of the important variables. Third, we present the outcome of the
growth effect of the human capital and compare each contribution among different
developed countries. Finally, this paper discusses the issue about the allocation of human
capital. Some conclusion and future work are drawn in section IV.
7
Figure1-5: the framework of this study
Motivation and purpose
Literatures review
Issue (I):
The relationship between human
capital and economic growth
Issue (II):
The relationship between allocation
of human capital and economic
growth
Classify the data by different
development
Classify the data by different
industrial organization and
development
Conclusion
8
2. Literatures Review
2.1The human capital to economic growth
Much studies demonstrate theoretically and empirically education’s importance to
economic growth through diverse mechanisms. Nelson and Lucas(1966) recognize average
educational attainment as an investment to human capital, and address the conception that
the man with higher education adapts the technology more effectively than the others.
Then basing on the “new growth theory ” such as Lucass(1988) and Romer(1991), they
added the variable of education into the growth model and place the emphasis on the
characteristic of non-decreasing returns to scale in human capital that explain the
self-sustaining growth of per capita incomes. Mankiw and Romer(1992) augment the
solow model by including accumulation of human capital as well as physical capital, they
seem the enrollment rate of secondary level as the stock of human capital and find the
education not only has positive effect to growth but also improves the power of
explanation in the solow growth model. Norman(1995) also finds the same conclusion ,but
adds the additional variable of change quantity in education that can provide useful
additional dynamic information on the contribution of human capital to economic growth.
In empirically, lots papers want to prove the relationship between human capital and
economic growth. Although they discuss this issue by different indexes of education, they
indicate the similar conclusion that investment in education is a key factor in the rapid
growth rates. Barro(1991) makes use of the primary and secondary enrollment rate in1960
to confirm the positive growth effect of human capital, and find the secondary education
has the largest effect to economic growth. Therefore, much coming literatures recognized
the secondary education as the variable of human capital. In recently, Chatterji(1998)
9
reexamines this issue by the variable of secondary and tertiary enrollment rate from 1960
to 1985, and demonstrates the tertiary education does displace secondary education as the
major driver of growth. Stephan(1997) also finds similar conception that tertiary education
has the greatest economic impact on output. In conclusion, the higher level of education
plays more and more important role to describe the accumulation of human capital
recently.
Closely related papers in the literature to this research are studies by Stephan(1997),
Ruth Judson(1998) , Petrakis(2002) Katarina & Keller(2007). They further examine this
relationship is ambiguous by different level of education and in different country
developments. They mostly argue that the low income countries rely heavily on primary
education and moderately on secondary education while higher education seems to be
more profitable in wealthy countries. On the contrary, Chatterji(1998) uses the enrollment
rate as the accumulation of human capital and find that tertiary education is important for
countries that attempt to `catch up’ with the well-developed countries, but less important
for the world leaders since their tertiary enrolment rates are already near the maximum.
The similar paper studied by Kwabena(2006) adopts 34 African countries over the
1960–2000 period and measure the education variables as the average number of years of
education attained by the adult population. In contrast with other literature
6
finding no
significant effect, they demonstrate that the higher tertiary education has positive and
statistically significant effects on the growth rate as well as the
6
Appiah and McMahon (2002)find that the sub-Saharan African countries invest more in education but
allocate large percentages of education budgets toward higher education ‘‘where the returns are the lowest,
emigration the largest, and tuitions remain highly subsidized.’
10
education of primary and secondary level .Although there are no obvious theoretical issue
about the link between education level and different developments, those studies indicate
that we can’t neglect the factor of country development as discussing the growth effect of
human capital. Because of missing value of some education variable, they all use the
average-period data to solve this problem (see Table2-1). However, this method can
eliminate some information from data and they overlook the year fixed effect as discussing
the relationship between human capital and economic growth. Therefore, we adopt
individual period data and add the factor of year and country fixed effect to reexamine this
topic.
Moreover, some studies emphasize the issue of human capital allocation
7
. Base on
the endogenous growth theory, they indicate that not all kind of education fields can drive
the technology and economic growth. Therefore, the effect of human capital composition
on growth and development is a more recent field in the economic literatures. The first
paper in this issue was the one from Murphy et al.(1991), which argues the rent seeker
8
such as lawyer rewarding talent more than the producer and innovator, and show the result
that the engineering students in college have positive effect to economic growth but the
law students does not. The coming literature studied by Tiago(2007) findnig the positive
relationship between high-tech skill and economic growth by adding the factor of the
composition of human capital into growth model, and also demonstrate this effect
empirically in OECD countries. There are also some relating literatures addressing the
importance of engineering employment to firm’s growth. Almus and Nerlinger(1999) on
7
tertiary education can be categorized into lots fields from the UNESCO data set
8
Rent seeking generally implies the extraction of uncompensated value from others without making any
contribution to productivity
11
newly established West German firms. They provide evidences that firms started by the
skill in science and engineering fields rewards greater growth rates in high-, medium-, and
low-tech industries. On the contrary, business education has a significantly positive impact
only for low-tech firms. The similar literature is studied by Colombo and Grilli(2005).
They examine the role of specific human capital in scientific and technical fields vice versa
other education fields of entrepreneurs for growth of new firms in high-tech sectors. They
find that the average years of founders’ education has no significant effect whereas
education in S&E
9
field has large positive effects.
According to the above-mentioned, they only demonstrate which field of human
capital has contribution to economic growth but don’t consider the factor of country’s
industry structure. Richard H. Mattoon(2006) reviews some previous literatures and brings
up the conception that the tertiary education is most successful in influencing economic
growth as they are attuned to the economic structure of their local economies. In others
words, the degree of education’s growth effect depends on whether the field of human
capital from universities can offer local industry new technology and innovation or
upgrade the existing industry. Kitagawa F.(2004) also sheds light on the collaborative
mechanics between university and local industry. In contrast with other literatures, it seems
fruitful to investigate the use of different knowledge bases within particular industrial and
learning not only looking at high-tech industry and high-skilled labor but also other sectors
of activities economy. However, those two literatures only address the simple conception
about the connection between human capital and their industrial characteristics, but they
9
the UNESCO classify the tertiary into the fields of education, humanities and art, social science, science,
engineering, agriculture, health, and service. S&E skill means the sum of graduate in science and
engineering as a share of total graduate in tertiary education.
12
don’t prove this result empirically. Therefore, we add the dummy variables that represent
the different country industrial organization and development to examine whether the
country’s characteristics can impact the relationship between human capital and economic
growth.
13
Table 2-1: the previous literatures about the the growth effect of human capital
author period country econometric data profile the variable of human capital outcome
Barro(1991)
1960~1984
98
OLS(cross-section)
one period data
primary secondary
enrolloment rate
+
Mankiw & Romer1992 1960~1985 75 OLS(cross-section) average period secondary enrolloment rate +
Norman (1995) 1960~1985 75 OLS(cross-section) change in enrollment rate secondary, tertiary enrollment +
Chatterji(1998) 1960~1985 98 OLS(cross-section) change in enrollment rate secondary, tertiary enrollment +
Stephan(1997)
1985
77
OLS(cross-section)
one period data
average years of school in primary
secondary and tertiary
+
Pritchett (1997)
1965~1984
77
OLS(cross-section)
change in average years
of school
average years of school
Uncertan
Temple(1999)
1965~1985
64
LTS(cross-section)
change in average years
of school
average years of school
+
Barro(2001) 1960~1990 98 panel average period enrollment rate +
Kwabena et. al(2006)
1960~2000
34 African
system GMM
average period
average years of school
+
Petrakis(2002) 1977~1997 24 WLS(cross-section) average period enrollment rate Uncertan
Katarina(2007)
1970~2000
75
panel, country fixed
effect
average period
enrollment rate ,public education
expenditures
Uncertan
Keun Lee et. Al(2008) 1962~2002 100 system GMM average period enrolloment rate Uncertan
this paper 1980~2006 118 panel,system GMM individual data enrolloment rate
14
2.2 The other variables to economic growth
In order to reduce the mean square error
10
and the bias of estimators, we add other
control variables that can explain the economic growth. The most variables that we obtain
are similar to Barro(1991,1998) such as real GDP per capitafertility ratethe growth of
consumer price indexgovernment expenditureinvest in physical capitalopenness and
political right. In addition, adding those control variables can test the robustness
11
of the
relation between education and economic growth.
2.2.1 Investment, Fertility rate and economic growth
According to the model, which proposed theoretically by Robert Solow in1956, the
investment and population growth are the important factors to impact the economic growth.
Empirically finding studied by Mankiw(1992), Long and Summers(1991, 1992) improve
this connection between investment and economic growth. According to some previous
literatures, there are two mechanics through which fertility, as measured by birth rates,
might affect per capita economic growth. The first effect is through changes in the share of
the population of working age. When the fertility rate decline, the population of working
age and the effective labor input would rise, and further foster the economic growth. The
second effect is through the per capita investment rate. The fertility involves an increase in
the value of parent’s time and thereby a rise in the cost of raising children and tend to
reduce the investment to physical capital.
10
the mean squared error or MSE of an estimator is one of many ways to quantify the amount by which an
estimator differs from the true value of the quantity being estimated
11
the coefficient is stable or unchanged after adding other control variables to the model
15
But some literatures argue that population may have a scale effect that is beneficial to
economic growth. Kemer(1993) demonstrate that technological progress is an increasing
function to population size. The reasoning is simple: the larger the population, the more
people there are to make discoveries, and the more rapidly knowledge accumulation. So he
recognized the growth of population as an important element to economic growth.
Boucekkine(2002) also find that the long-term relationship between fertility and
per-capita growth is hump-shaped. When the fertility rate is low below the threshold,
increasing in fertility would raise the effective labor force, and thus foster the economic
growth. On the other hand, when the fertility rate is high above the threshold, increasing in
fertility would rise the parent’s cost of raising children, and thus reduce the investment and
labor input to the economics. In conclusion, the relation between fertility rate and
economic growth is ambiguous. But according to empirical literatures, the effect of fertility
mostly have negative to per-capita growth. Brander, James and Steve Dowrick(1993) use a
107 country panel data set covering 1960-85, and find that high birth rates appear to reduce
economic growth. Li Hongbin and Junsen Zhang(2007) use a panel data set of 28
provinces in China over twenty years by the method of GMM estimation and also find the
same result.
2.2.2 Government expenditure and economic growth
Barro(1991) use a 98 country data set covering 1970-85 and find the ratio of real
government consumption expenditure to real GDP has a negative association with
economic growth. The argument is that the government expenditures cause the increasing
in tax and thus reduces the saving rate and growth. Landau Daniel(1983) also demonstrates the
same conclusion. But the growth effect of government consumption is not always negative,
when we classify the expenditure into several types. According to Peter Nijkampa, Jacques
16
Pootb (2004), they arrange the sample of 93 published studies and sort out the policy into
five categories: general government consumption, tax rates, education expenditures,
defense, and public infrastructure and find the evidence for a positive effect of
conventional fiscal policy on growth is rather weak, but the commonly identified
importance of education and infrastructure is confirmed. In addition, the relationship
between government expenditures and growth is different in different level of development
country. Landau Daniel(1983) finds the government consumption cause negative effect in
developed country and positive but insignificant effect in less developed country.
2.2.3Openness and economic growth
New growth theory (Romer,1991) has provided important insights into an
understanding of the positive relationship between trade and growth. For example, if
growth is driven by R&D activities, the trade activity is taken for the incentive and access
to transit technological knowledge between country and country. Further trade allows
company to have more resources to expand its scale and investment of R&D. According to
this issue, Harrison(1993), Yanikkaya, H(2003), Chen, P and Gupta, R (2006) find the
positive relationship between openness and economic growth empirically. In general, the
growth effect of openness in less-developed country is more positive and significant than
the country that is well-developed. The reason is that developing countries obtain the idea
and intermediate input that is relatively new and productive to their economic and
production, so when the trade is more frequent and unobstructed, the resource of
knowledge accumulation from well-developed countries is more quickly and easily.
2.2.4 Political structure and economic growth
Many literatures discuss the relationship between democracy and economic growth,
17
but the direction of effect is unclear
12
. According to previous studies, two mechanics that
affect this relationship are opposite. First, democracy may cause distortion and inefficiency
to society and economic environment: Chong, Alberto(2002) demonstrates the effect of
democracy that exacerbates the social inequality in the poor and highly unequal countries.
Moreover, political and civil freedom makes it harder for government to take tough but
necessary decisions (World Bank, 1991). On the other hand, authoritarian regimes are able
to implement the kinds of policies that are necessary for rapid economic growth. Second,
the region of democracy has some indirect effect to economic growth positively. For
example, Gerring, John (2004) regards democracy as an important institutional factor in
the development of human capital, as measured by declining fertility rates and
improvements in education, public health, and life expectancy. Hellwell(1994) also finds
the positive relationship between democracy and investment that offset the negative effect
of democracy on subsequent economic growth. In conclusion, the democracy that depends
on the two mechanics is ambiguous to the GDP per capita growth.
2.2.5 Inflation and economic growth
In many studies, inflation can cause lots of social cost and negative effects to
economic growth. The first cost of inflation that can be easily identified is that it distorts
the tax system and further reduces people’s wealth and saving that weaken the incentive of
investment (Barro,1995). Second, higher inflation induces more inefficiency in market
transaction because of price variability that can disturb the long-term relationship among
business transaction. Many literatures(Barro,1995; Bruno Michael,1998; Alexander 1997)
12
Leblang(1997) Gerring John(2005) find the positive effect and John F. hellwell(1994) Barro(1995) find the negative
effect between democracy and economic growth
18
find the negative effect between growth and inflation. However, Burdekin(2000) offers
further evidence that the effects of inflation on growth are negative, nonlinear and varying
by the country type, and demonstrate the cost of inflation can be much higher for industrial
than for developing countries.
