Redistributive Effects of Government Grants for Higher Education

Education is one of the key determinants of an individual’s income and inequality in income within a society. It is typical for modern governments to intervene in the market for higher education, adjusting tuition fees and engaging more people to obtain a degree. However, the lower inequality as a result of this policy may be costly in terms of efficiency losses within the economy. This study analyzes the tradeoff between productivity and inequality under different modes of higher education financing by the government using an OLG model with heterogeneity in age, innate ability, and education level. The baseline model with merit-based grants is calibrated to resemble the economy of Ukraine in 2019. Several alternative policy programs are considered: pure private education, a diversified system, need-based grants, and pure public education. Numerical simulations show that pure private education leads to higher productivity only in the long run. All the other policies are effective in reducing income inequality both in the short and long run. The advantage of need-based grants over a diversified system is that they provide a higher incentive for parents to partially finance the higher education of their children. On the other hand, need-based grants lead to the withdrawal of some high-ability students from universities, while a diversified system does not have such an effect.