November 4, 2009

Liberalise education

Nobel Prize-winning economist Douglass North observed that “economic history is overwhelmingly a story of economies that failed to produce a set of economic rules of the game (with enforcement) that induce sustained economic growth.”

A sound education system is the foundation of sustained growth. Yet, nowhere is the failure to produce a set of economic rules more evident than in the Indian education system. India’s literacy rate of around 60 percent places it in the company of countries such as Uganda, Rwanda, Malawi, Sudan, Burundi and Ghana. Broadly speaking, India accounts for 50 percent of the world’s illiterates even though India accounts for around 17 percent of the world’s population. The failure of India’s primary education is predictably reflected at the higher education level: gross enrolment ratio is a mere six percent. Furthermore, the quality of Indian college graduates is poor to the extent that only about a quarter of them are employable.

Education in India is heavily controlled by the government both at the state and federal levels. Government agencies and regulations dictate every aspect of education, sometimes to the smallest details: who can run educational systems (generally only non-for-profit trusts can), who teaches, what is taught, who learns, what the fees and salaries should be, and so on. Most unfortunately, the entry barriers that the government imposes on the sector lead to such effects as high costs, low quality, and rampant corruption.

Entry barriers

The market for educational services is like any other market. By putting barriers to entry to the market, it increases competition for the market which leads to decreased competition within the market. This has two unfortunate effects.

First, corruption is made endemic in the system. Persons in charge of government agencies with discretionary powers to grant entry into the market are susceptible to bribes. Education providers compete for the market by paying  immense bribes to obtain licenses. Later these amounts have to be recovered from the students in the form of huge capitation fees and other coercive measures. All this is possible because the entry barriers reduce supply so that economic rents can be extracted. In effect, this is a process that transfers wealth from those wishing to get an education to those who have control of the entire sector, with the education providers acting as intermediaries in the process.

The second effect is that the quantity supplied cannot meet the demand and the prevent normal supply response and limit the necessary competition within the market to improve quality. The incumbents continue to remain in business despite shoddy service.

Necessary reforms

The education sector urgently demands reform. What follows is a short list of needed reforms. For the purposes of this discussion, the sector can be partitioned into the primary (kindergarten to class 6), secondary (classes 7-12) and tertiary segments (college and above). The tertiary segment can be further subdivided into professional, vocational and liberal education segments.

First and foremost is the liberalisation of the system. The market has to be allowed to function by allowing for profit firms to serve the sector. This will expand the supply. Market competition will ensure quality. Most of the entry will be in the tertiary segment (especially in the professional and vocational areas) because the returns on investment for a student is significant and short-term compared to primary and secondary education.

Second, the public spending on primary education has to be channelled properly. Public support of primary education—around 2 percent of GDP—is ineffectively and inefficiently spent on funding government schools which don’t function. The problem is systemic and requires a radical reform to get the incentives right. This can be achieved by, instead of funding schools, funding the students. Primary education providers, whether public or private, will have to compete for students. The market, in effect, will bring about accountability by aligning incentives with performance.

Third, the creation of an independent “Education Regulatory Authority of India,” (ERAI). Some markets— especially ones in which there are significant externalities and/or have monopoly characteristics—have to be regulated to ensure socially optimal outcomes. The ERAI should have the mandate to not merely allow, but to actually encourage, competition. The ERAI should be sufficiently empowered to resist political interference and regulatory capture. One of the most important mandates of the ERAI will be to guarantee a level playing field for all entrants—private, public, foreign, domestic—and prevent any special interest group from capturing the market. A critically important function of the ERAI will be the rating of all providers of education. This will help consumers make informed decisions and thus provide feedback to the market.

Fourth, creation of a complete funding and credit market for education. Investment in primary education characteristically has long payback periods and high positive externalities. Publicly funding primary and secondary education— through grants—for those who cannot afford it is justified. Tertiary education, in contrast, has short  payback periods and sufficient private return to investment that it can be funded by loans instead of grants.  Mechanisms can be figured out which will ensure equality of opportunity at all levels and that no one is denied merely because of an inability to pay.

Fifth, policies that enlarge the set of options for post-secondary education. India’s growing economy needs a large number of people with a wide range of skills. To attain a proper mix of skilled people, vocational education has to be accorded appropriate attention. The number of vocational institutions has to go up. This can be achieved by the  combined force of previously mentioned items: allowing free entry into the segment and completing credit markets where necessary.

Sixth, a commitment to achieving 90 percent literacy rate in three years. The main cause of the failure to do this over the decades is one of will and not of opportunity or resources. The fierce urgency of now In any segment of the economy, including education, producing a set of rational rules is a political process. Frequently basic economic truths are wilfully disregarded in a myopic but cynically calculated process of short-term electoral gains. In the long run, however, the persistent practice of politically motivated economically unsound policies has the unsurprising and unfortunate effect of impoverishing the economy.

India’s future depends on an educated citizenry. Despite heavy expenditure in education over the decades, the rules of the game have been a significant barrier to Indians’ gaining an education. The persistence of a dysfunctional system can only be explained by the fact that it works for the benefit of those who control the system and not for the larger social good. Reforms will therefore be immensely difficult because powerful vested interests will block them. To counter this, the already educated public has to take up the cause on behalf of those who desperately need a functioning education system.

We have a problem to solve. The solution has to begin with the recognition that our past policies—however well meaning they may have been—have failed to produce the stated results. Evaluating what has not worked and why is a necessary first step in the most critically urgent task of reforming the educational system.

The consequences of not solving this problem of education are too horrifying to contemplate. It is impossible for a significant portion of humanity to face the twenty-first century without education in a globalised hyper-competitive world. The choice is stark: either solve this problem now or be forever relegated to being a Third World economy. There are no other options.

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