ASSIGNMENT 2 ANALYSIS OF THE IMPACT OF EDUCATION ON INDIVIDUAL EARNINGS IN TURKEY INTRODUCTION Modelling the linkages between economic growth

h and human capital has started with the New Growth Theories. Seminal work by Solow defined a residual, so called 'Solow Residual', measuring the differe.nce between output growth and the growth rates of capital and labour inputs. Technological change is, then. put into the production function in such a way that any technological change "simply multiplies the production function by an increasing scale factor" (Solow, 1956). Hence, the production function is altered as: Y = A(t)F(K,L) "A" represents technological change, which was identified as an exogenous factor shifting the function and the cause of this technological change might be anything that was named as "a measure of ignorance". Though, technological change was spell out in the Solow model, it was an exogenous variable integrated into the Cobb - Douglas Production Function. However, the endogenous growth theories augmented the Solow model by extending the aggregate production function through integrating human capital into the model (Romer, 1990). Linkages between economic growth and the human capital were built by Schultz (1960). Schultz defined human capital as skills and knowledge acquired by individuals to be used in the labour market. Activities to improve human capabilities are classified under five categories: (I) (II) (III) (IV) (V) health facilities and services on-the-job training formal education study programs for adults migration of workforce to adjust to the changing job opportunities (Schultz, 1961 : 9).

Direct and indirect expenditures on education, health and internal migration to take advantage of better job opportunities are, hence, considered as forms of investment in human capital. Human capital was brought into the core of the new growth theories. Human capital is embedded within the new growth theories through two channels. First, human capital is directly integrated into the theory. as a factor input in the production function. Secondly, it is incorporated as a factor leading to endogenous growth. Improved human capital is expected to enhance the productivity (productive capacity) due to new technologies to be produced and used by the stock of human capital. Expenditures made to enhance the productive capabilities of labour, also yield a positive rate of return to the labour himself. Resulting increase in the earnings is the return on investment in human capital. With the development of human capital theory, the educational level of the population as one of the key determinants in economic growth is considered to be affected by the returns to education, Empirical evidence on the linkages between investment in human capital and economic growth are gathered from both micro labour literature and macro growth literature. Micro labour literature utilises micro data and focuses on the relationship between individual earnings and educational attainment. Macro growth literature, on the other hand, conduct cross country comparisons of GDP growth
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and the level of schooling. Although there exists and extensive literature on returns to education, research focusing on Turkey remains limited. This assignment aims to make an update contribution to the literature in Turkey. Role of the educational level (primary, secondary, and higher education) in explaining earnings dispersion is analysed by estimating standard Mincerian equation, and using a national level household budget survey data. Summary statistics for Turkish population profile are given with the Table I below Table I. Turkish Population Profile Population Population (Male) Population (Female) Adult literacy rate (aged 15 +) Youth literacy rate (aged 15 24) Adult female literacy rate Adult male literacy rate Youth female literacy rate Youth male literacy rate Source: U.N. Common Database 2000 61.642.058 31.155.020 30.487.038 81.1% 92.5% 70.9% 91.1% 88.4% 96.6% 2010 72,024.777 36.303.918 35,720.859 87.4% 95.6% 79.6% 95.3% 93.3% 98.0%

The research is organised under three sections. First section reviews the literature on returns to education. Second section briefly describes the data set, and the econometric specifications used in estimating the impact of education on personal earnings. Third section reveals and discusses the estimation results. The last section makes concluding remarks. LITERATURE REVIEW The key relationship for the estimation of returns to education was derived by Mincer (Mincer. 1974). Mincer considered a number of functional forms to estimate earnings human capital relationship. The following model is one of the most commonly used models, produced by Mincer, in order to measure the relationship between investment in education, and the individual earnings: log w = log w0 + rS + _1X + _2X2 Here, w represents earnings, where w0 is the level of earnings of the individual without any educational attainment and experience, S is the years of schooling. and X is the potential experience. Since then, the topic has become centre of focus, and a large number of studies have estimated returns to education. Empirical evidence, in general, indicates that the loglinear-earnings-education function fits the data rather well. General conclusion reached by the much of the literature is that the upward estimation biases, due to the effect of unobserved characteristics such as family characteristics, inherent ability bias etc., are considered to be about the same magnitude as the downward biases, due to the measurement errors in educational attainment the model (Krueger & Lindahl, 200 I). Returns to schooling is measured through use of two approaches. One of the most comprehensive surveys by Psacharopoulos (1985) covers the cross country returns to education estimations for 60 countries. The findings of the research reveals that the developing countries, compared to developed countries, possessed the
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highest return to an additional year of schooling. Furthermore, the evidence confirms that the returns are highest for the primary education. the general curricula and the countries with the lowest per capita income. An updated research suggests, on the other hand, returns to primary education are higher in developing countries, while returns to tertiary education are higher in developed countries (Psacharopoulos & Patrinos, 2004). Recent country specific studies, on the other hand, reveal heterogeneous results varying over time as well as across countries. Harmon et. Al (2001) classified European countries into three categories according to their returns to education levels. Scandinavian countries (Norway, Sweden, and Denmark) were the ones with the lowest return to schooling, while the highest returns were in Ireland and the UK. West Germany, Switzerland and Portugal, on the other hand, were the ones in between of the two groups. Evidence on the decreasing returns to education in Norway (Haegeland et. al. 1999), and Austria (Fersterer & WinterEbmer, 1999), Switzerland and Sweden (Harmon et. aI., 2001) are reported. European countries characterized by increasing returns are the UK (Sloane & O'Leary, 2004), West Germany (Lauer & Steiner, 2000), Denmark, Portugal Finland and Italy. A study for Slovakia and Czech Republic reveals that the returns to education have increased during the post communist era (Filer. et. ai, 1999). Findings for China (Heckman & Li. 2003), on the other hand, suggest increasing returns to education. Another widely accepted conclusion is on interaction of ability characteristics with education. The test of the relationship between ability characteristics and the educational attainment is based on income distribution quintile-returns relationship. The evidence reveals that for most of the Organization for economic Co-operation and Development (OECD) countries rate of returns increase by quintiles, indicating that the education complements ability. For the developing countries, on the other hand, rate of returns decrease with quintiles which suggests that the education and ability are substitutes for each other (Patrinos, et. aI., 2006). Despite the huge literature on the estimation of returns to education in terms of both cross country and country specific analysis, studies concerning Turkish case remain limited, Tansel (1994) estimates an earnings function for urban wage earners in Turkey together with the earner choice equation. Findings demonstrate that the returns to education and probability of wage earner participation increase with the level of schooling both for men and women (Tansel (1999). Returns to vocational and technical training, in Turkey, are also found to be significantly higher compared to the general high school education (Tansel, 2002). Econometric Model Specification Micro labour literature focuses on the earnings -education relationship by use of alternative models. The distinction between model specifications is based on two aspects (Blundell. et. al. 2001). First is based on the distinction between homogenous returns and heterogeneous returns. The homogenous returns model assumes that the returns to investment are same for all individuals. Heterogeneous returns model. on the other hand. allow for individual heterogeneity. Individual characteristics (such as family background. inherent ability. gender. etc.) are identified as the important source of this heterogeneity, Educational attainment. and hence earnings are hypothesised to vary across individuals accordingly with these characteristics. Homogenous returns. Compared to the heterogeneous returns model, remains quite restrictive in the sense that it incorporates the upward bias due to the unobserved (omitted) variables. The second aspect is based on the measurement of
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educational attainment. Single treatment models refer to the impact of a single educational qualification, assuming no difference between the educational stages. Returns on each additional year of schooling, regardless of the educational level, are assumed to be same. Multiple treatment models, on the other hand, distinguish the impact of different educational stages (such as primary school, secondary and tertiary schools, and university etc.) on earnings. Two different approaches to measure the impact of education on earnings have been used in this research. First, the standard Mincerian earnings function has been used for empirical testing of the returns to years of schooling. Second. A multiple treatment model OLS is regressed in order to evaluate the retums to different educational degrees. Standard Mincerian semi logarithmic earnings equation is specified as; InW1 = + S1 + y1EXP + y2EXP12 + 1 (1) where; In W refers to the log of gross hourly wages, S. is the years of schooling, EXP is the potential years of experience, and the is the error term. Mincerian equation assumes a linear relationship with the earnings and the years of schooling and potential experience. This hypothesis is obtained from the human capital theory based on the assumption that the 'Individuals accumulate human capital both at school and in the labour marker. Thus, Earnings are assumed to depend on the level of schooling and on the job training proxied by potential experience. The models employed in this research are subject to some sources of bias. First, the one factor model, estimated by the Mincerian equation, assumes that there are no differential trends for different educational levels. Rates of return are considered to be linear assuming each additional unit of education. However, the empirical evidence suggests that the returns to education increase with the educational level. This sort of measurement bias is attempted to be eliminated by employing another multi factor model, based on the estimation of equation 2. In order to account for the returns to different educational degrees, a multiple treatment specification, distinguishing the impact of many different educational levels, is also employed for empirical estimation. InW1 = + 1S1i + 2S2i + 3S3i + 4S4i + 5S5i + i (2) where; S1=1 if the individual completed elementary school, S2=1 if the individual completed junior school, S,=I if the individual completed vocational school, S,=I if the individual completed a higher education, and S,=I if the individual has a postgraduate degree. Second, both one factor and multiple factor models used in this research, ignores the heterogeneity of individual Characteristics, and assumes homogeneous returns for all individuals. However, strong evidence supports that unobserved individual characteristics may have important impacts on educational attainment. This, in turn, constitutes an important source of upward bias. Inclusion of a set of instrumental variables such as family characteristics (parental education, occupation, etc.) and other location / region related variables. or the Use of siblings / twins data are proposed and used to account for the endogeneity of schooling (Altonji & Dunn,1996). Such micro data including the educational attainment and personal characteristics was collected and used by Aldemir and Gulean (2004) in Turkey, for the purpose of determining the factors of student satisfaction. However, the data was limited with the students, and do not represent all the individuals of Turkish labour market. Hence, due to the Jack of data on family characteristics and twins or
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siblings in Turkey. this sort of bias cannot be eliminated from this research. Hence, the results provide important highlight, although should be evaluated within the limits of the models specified and the data available. Both models are estimated for two years, 1994 and 2004 in order to provide a basis for evaluation of the changes in returns to education over time. The models are estimated for both, men and women separately in order to capture gender differences in returns to education. Also, in order to allow for sectoral analysis of returns to education, individuals are grouped accordingly with the sector they are employed in, and then the regression are estimated for the two sectors (i.e. industry. and services). EMPIRICAL FINDINGS ON RETURNS TO EDUCATION IN TURKEY Coefficients documented in Table 2 are obtained by estimating a standard Mincerian equation that regresses the log of individual earnings on years of schooling, potential experience and its square. The parameters obtained from the estimation appear to be in line with the theory. The years of schooling, potential experience and the square of potential experience are all statistically significant at 0.95 level both for men and women, and in the years 2000 and 2010. The standard errors are given within the parentheses in the table. The adjusted R square, which shows the explained part of the variation in dependent variable, explained by the independent variables, is around 25 %. This value for adjusted R square is normal, since for the cross section data it is often found to be among 20 - 40%. Also, adjusted R square is observed to be increased from 2000 to 2010, which indicates that the explanatory power of the model has increased over time.

Micro data obtained from Household Budget Surveys for the years 2000 and 2010. In line with the conventional wisdom, hourly wages increase with education. Comparing the estimation results for 2000 and 2010 demonstrates an increasing trend in returns to education for both men and women. However, each additional year of schooling reveals much higher returns for women than men, which may be due to the fact that the women have less opportunity for the educational attainment. Hence, the value of education for women increase at the margin compared to men. The effect of potential experience is also positive, and an additional year of experience seems to account for around 4 percent of the increase in earnings for both genders in 2000. There is also a considerable increase in the
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impact of accumulated experience on earnings over the years. Replacing the years of schooling variable with dummies for different educational degrees, multi- factor treatment model is estimated, and Table 3 reveals the following results:

Micro data obtained from Household Budget Surveys for the years 2000 and 2010. The parameters, obtained from the multi factor treatment model are statistically significant at 0.95 level. The model yields results that are coherent with the theory. Standard errors are in parentheses. Adjusted R square ranges from .20 to 35. and increased over time. It is interesting to note that, the rerums to education have fallen for the lower educational levels and have risen for the higher and post graduate education for both men and women. Marginal returns to elementary school diploma seem to decrease over the years, which may be due to the fact that both sectors increased the demand for higher qualifications. Comparing returns to men and women, though in 2000 male workers have had higher returns for their educational attainments, over years the gap seems to get closed. In order to detail this analysis, a sectoral look at the dynamics of returns to educational degrees may highlight some facts. Multi-factor treatment model is also regressed for the sub-samples created according to the sectoral division of employees. The results are given with the table 4. The estimation yields statistically significant results for the 'Parameters estimated. Table 4 demonstrates that, in 2000 the services sector revealed higher rewards for the junior and higher education for women compared to the industry sector. Though, there seems that there is not much significant increase in rewarding male workers for their educational degrees completed over the years. It appears that there is a striking increase in the returns to higher education in the industry sector Over 10 years for both genders. Though there is not much change in returns to vocational training over the years for men, it seems 10 bring much more reward for women particularly. for in the services sector. There is particularly a considerable increase in rewarding of the vocational education for women across ten years, which may possibly be the outcome of an increase in demand for technically skilled labour in especially female dominated industries, over the years. Men appear to get higher rewards for their accumulated experience relative to their female colleagues.

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CONCLUSION The average returns to additional year of schooling has revealed lower marginal returns for the lower educational degrees for both genders, but significantly increasing trends for higher educational levels for both men and women. A comparison of the empirical findings from this research with the other studies in the literature, indicate that the returns to educational investment are high in Turkey. Increase in the rewarding of the industrial sector appears striking. Marginal returns to a year of schooling for the higher and postgraduate education imply considerable rise over the years for both genders. Though there is not much change in returns to vocational training for men, it seems to bring much more reward for women over the years. particularly for the services sector. This increase in returns to higher levels of education and vocational schooling may be attributed to the industrialisation and the corresponding increase in human capital needs of the country over ten years. The results also display a marked improvement in the rewarding of accumulated experience. The rewarding of work experience has been increased notably across years especially for male workers. In contrast, accumulated work experience has been only moderately reflected in the wages of women. Two important aspects appear for the policy implications. First, in consideration with the high importance of human capital for technologic progress which is the Source of economic growth. public investment in human capital would be an important policy implication to achieve the economic growth and development. Public investment in human capital may be in the form of opening up new institutes and vocational courses. Tax reductions for those business enterprises who invest in their employees through either supporting their formal education or providing them with apprenticeships may be applied.

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To reduce unequal distribution of income among individuals in Turkey, and increasing welfare requires has been one of the important policy targets. Empirical evidence suggests strong results on the fact that education is an important determinant of individual earnings. Hence, it can be inferred that equal educational opportunities would provide with more equality in individual earnings. Therefore the second point addresses the long term private and public loans and scholarships for students as an important policy implication.

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For NBER. Patrinos, H. A., Ridao - Cano, C., and SakeJlariou, C. (2006), Estimating the Returns to Education: Accounting for Heterogeneity in Ability. Policy Research Working Paper Series, No.4040, the World Bank. Psacharopoulos, G. (1985), Returns to Education: A Further International Update and Implications, Journal of Human Resources, 20(4): 583 - 604. Psacharopoulos, G. (1994), Returns to Investment in Education: A Global Update, World Development. 22 (9): 1325 - 1243. Psacharopoulos. G. and Patrinos, H. A. (2004), Returns to Investment in Education: A Further Update, Education Economics, 12 (2): III - 34. Romer, P. M. (1990), Endogenous Technological Change, Journal of Political Economy, 98 (5): 71-102. Schultz, T. (1960), Capital Formation by Education, The Journal of Political Economy, 68 (6): 571 - 83. Schultz, T. (1961), Investment in Hwnan Capital, The American Economic Review. 51 (I): 1- 17. Sloane, P. J. and O'Leary, N. C. (2004), The Return to a University Education in Great Britain, IZA DP No. ) 199, Institute for Study of Labor (IZA) Solow, R. M. (1956), A Contribution to the Theory of Economic Growth, Quarterly Journal of Economics, 70: 6S - 95. Tansel. A. (1994), Wage Employment, Earnings and Returns to Schooling for Men and Women in Turkey, Economics on Education Review, J3 (4):305 - 20. Tansel, A. (1999), Torkiye'de ve Secilmis Olkelerde Egitimin Gelirisi, ODTO Gelisme Dergisi, 26 (3 - 4): 453 - 72. Tansel, A. (2002), General versus Vocational High Schools and Labour Market Outcomes in Turkey, in Human Capital: Population Economics in the Middle East (Eds. Sirageldin, I.), Cairo: American University Press, 258 - 274.

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