How Your Neighbor’s Education Affects Your Salary

The link between local human capital and salaries is robust, and it holds true for most American cities. Figure 4 shows the relationship between average salaries of high school graduates in each city and the fraction of workers with a college education in that city. The graph shows a clear positive association, indicating that the more college graduates there are, the higher the salaries for high school graduates are. (The outlier in the top right corner is Stamford. Because there are 305 other cities in the graph, the relationship is not driven by this outlier.) The economic effect is quite large. The earnings of a worker with a high school education rise by about 7 percent as the share of college graduates in his city increases by 10 percent. For example, a worker with a high school education who moves from a city like Miami, Santa Barbara, or Salt Lake City, where 30 percent of the population are college graduates, to a city like Denver or Lincoln, where 40 percent of residents are college graduates, can expect a raise of $8,250 just for moving.

 When I first looked at the graph, I was concerned that it was an apples-to-oranges comparison—that workers who pick cities with many college graduates, like Boston, might be fundamentally different from workers who pick cities with fewer college graduates, like Flint. If Boston attracts high school graduates who are smarter or more ambitious than those in Flint, then we should not be surprised to find out that they earn more. To account for this possibility, I relied on fourteen years of data from the National Longitudinal Survey of Youth, which has followed the life histories of 12,000 individuals since 1979. This data set is particularly useful, because it ensures an apples-to-apples comparison by tracking how the salary of a given person changes over time as the number of college graduates in his city changes. I found that workers who live in cities where the number of college graduates increases experience faster salary gains than workers who live in cities where the number of college graduates stagnates. Thus the same individual can make a very different salary depending on how many skilled workers surround him. This relationship holds for all sectors, but it is particularly strong for workers with high-tech jobs.

 This is a truly remarkable finding, one that helps explain the vast differences in the economic success of various cities. There are three reasons for the relationship between the number of skilled workers in a city and the wages of their unskilled neighbors. First, skilled and unskilled workers complement each other: an increase in the former raises the productivity of the latter. In the same way that working with better machines increases a worker’s productivity, working with better-educated colleagues increases the productivity of an unskilled worker. Second, a better-educated labor force facilitates the adoption of newer and better technologies by local employers. Third, an increase in the overall level of human capital in a city generates what economists call human capital externalities.

This concept is at the heart of modern economic growth theory, the study of what determines a country’s economic success. Researchers have built sophisticated mathematical models showing that sharing knowledge and skills through formal and informal interaction generates significant knowledge spillovers. These knowledge spillovers are thought to be an important engine of economic growth for cities and nations. In a famous 1988 article, the Nobel laureate Robert Lucas argued that these spillovers may be large enough to explain long-run differences between rich and poor countries. His explanation was that when people interact, they learn from each other, and this process makes those who interact with better-educated peers ultimately more productive and creative. This human capital externality is a financial windfall that people collect simply because they’re surrounded by many educated people.

 The sum of these three effects—complementarity, better technology, and externalities—is what ultimately drives the positive relationship in Figure 4. Notably, this relationship is strongest for less skilled individuals. In a study that I published in 2004, I found that for a college graduate, an increase in the number of other college graduates in the same city does result in a salary increase, but not a particularly large one. For a high school graduate, the increase is four times larger. For a high school dropout, the effect is five times larger. Thus, the lower the skill level, the larger the salary gains from other people’s education.

A large number of highly educated workers in a city is also associated with more creativity and a better ability to invent new ways of working. One way to see this is to look at what Jane Jacobs called “new work,” novel occupations that did not exist before. The economist Jeffrey Lin has studied which cities are the most creative in America, in the sense that they generate the most “new work” as measured by jobs that did not exist ten years earlier. Examples of new work in 2000 include Web administrator, chat-room host, information systems security officer, IT manager, biomedical engineer, and dosimetrist (don’t ask: I have no idea what a dosimetrist does). Between 5 and 8 percent of workers are engaged in new work at any time, but this number is much higher in cities that have a high density of college graduates—the ones in Table 1—and a diverse set of industries. Lin also found that creativity pays off: for the first few years after a new kind of job is created, workers in those positions earn significantly higher wages than identical workers in old jobs.

The existence of human capital externalities is good news for less educated workers in highly educated cities, because it means that they end up earning more than they would otherwise. But it also implies that well-educated individuals are not fully compensated for the social benefits that their education generates. This is an important example of a market failure. Essentially, education has a private benefit, in the form of higher earnings for the individual who acquires it, and an additional benefit for all other individuals who live in the same city. In fact, the full return on education for society—sometimes called social return—is larger than its private return. Since college graduates are not compensated for the benefit that they bestow on everyone around them, there are fewer college graduates than we as a society would ideally like. To put it differently, if the salary of college graduates reflected its full social value, more people would go to college. One way to correct for this market failure is to provide public subsidies for college education. Indeed, this is the reason that state and local governments pick up much of the cost of educating their residents. There are certainly other reasons to justify public investment in higher education—political and ethical—but I know of none more powerful than this one. It is in our own interest to subsidize other people’s education, as it ends up indirectly benefiting us.