The return on higher education is increasing. While a college graduate typically earns more than someone without the same level of education, this education or skill premium is rising in India, data from the two rounds of India Human Development Survey (IHDS) for the years 2004-05 and 2011-12 shows. Simply put, the rise in expected earnings with increase in education level was steeper in 2011-12 than in 2004-05.

Why should this happen?

It is a truism that technological progress will benefit those workers the most that are able to use the technology. Experience from the developed world shows that economic growth and technological progress generally lead to a relative increase in the wages for skilled workers. According to a June 2015 IMF (International Monetary Fund) staff discussion note, technological advances lead to a relative decline in demand for unskilled workers either through automation or through raising the level of skill required to operate the new technology. Similarly, an OECD (Organisation for Economic Co-operation and Development) report of 2012 suggests that the skill premium or education premium tends to rise as an economy becomes “more knowledge-based". India is no stranger to this trend as the economy becomes more knowledge-based.

Education premium here is taken as the difference between the earnings of college graduates and upper-secondary-educated workers.

However, increasing education has an unequal effect on the earnings of various groups of workers with clear divergence at higher levels of education. While higher education results in very high pay for those engaged in salaried jobs, education has very little effect on the earnings of those who work as either urban non-agricultural wage earners or rural agricultural labourers. Chart 2 plots the relation between years of education and earnings, adjusting for experience (by using ‘age’ as a proxy).

In other words, the returns on education are much lower for categories of workers other than the urban salaried class. As Prof. Sonalde Desai from the University of Maryland points out, obtaining a salaried job appears to be acting as a funnel towards greater prosperity. Unfortunately, data suggests that the probability of obtaining a salaried job has not increased much since 2004-05.

The other inference is that earnings of urban wage earners or rural agricultural labourers don’t substantially improve with increased years of education. These trends have implications for income inequality as well.

However, it may be incorrect to attribute the rise in education premium in India to technological progress and productivity alone. It could also partially reflect shortage of skilled manpower driving up salaries for the educated lot. The 2015 Talent Shortage Survey by ManpowerGroup indicated that the skill shortage problem in India might be quite acute. The worldwide survey of more than 41,700 hiring managers reportedly found that 58% of managers in India reported difficulty in filling jobs, much higher than the global average of 38%, and also higher than the proportion of managers reporting difficulties in other countries such as the US (32%) or China (24%).

There is one caveat to the analysis here. The IHDS data used in this piece focussed on the average urban Indian male worker. This is entirely owing to data constraints as a large number of women—at least 50%—continue to report “housework" as their primary activity. Thus, making any inferences for women workers is liable to be distorted owing to a small sample size.

This is the first of a two-part series on education premium. Part II will talk about how rising returns to education can lead to greater inequality.

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