Friedman (1962) argued that a free market in which schools compete based upon their reputation would lead to an efficient supply of educational services. This paper explores this issue by building a tractable model in which rational individuals go to school and accumulate skill valued in a perfectly competitive labor market. To this it adds one ingredient: school reputation in the spirit of Holmstrom (1982). The first result is that if schools cannot select students based upon their ability, then a free market is indeed efficient and encourages entry by high productivity schools. However, if schools are allowed to select on ability, then competition leads to stratification by parental income, increased transmission of income inequality, and reduced student effort—in some cases lowering the accumulation of skill. The model accounts for several (sometimes puzzling) findings in the educational literature, and implies that national standardized testing can play a key role in enhancing learning.
I would have to pay $5 to read the whole paper, but the abstract conveniently supports political positions I like, so I’ll talk about it some more.
For starters, this is why a reasonably regulated charter school system holds a lot of progress but things like vouchers and the new fad for “education tax credits” do not. Once upon a time people on the right could be found to say good things about charter schools, since teacher’s unions often don’t like them. But crucially charter schools don’t do anything to entrench the privileges of the wealthy, so the main right-wing advocacy organizations have moved past them to more inequality-boosting alternatives.
Second, this highlights a very large underlying problem in American higher education. Colleges and universities compete with one another largely by trying to attract the best applicants. That lets you screen and have the best students. Which then helps ensure that your students go on to be successful, thus improving your reputation. Missing from the circle of life is any thought that you might have to actually do a good job of improving the skills of your students.