Funding higher education and wage uncertainty: Income contingent loan versus mortgage loan

We propose a simple theoretical model which shows how the combined effect of wage uncertainty and risk aversion can modify the individual willingness to pay for a HE system financed by an ICL or a ML. We calibrate our model using real data from the 1970 British Cohort Survey together with the features of the English HE financing system. We allow for individual heterogeneity by considering different family backgrounds and occupations. We find that graduates from poor families, males and graduates working in the private sector are more willing to pay to switch to an ICL. Using the UK Labour Force Survey we evaluate the distributive effects of our model. We compute the repayment burdens and taxpayer subsidies for average, low and high earnings graduates. The results confirm the important insurance benefits of an ICL compared to a ML, with lower burdens and higher subsidies for poorer graduates.

► We compare two student loans systems: mortgage loans and income-contingent loans. ► We derive the willingness to pay to move from ML to ICL of risk averse graduates receiving uncertain earnings. ► We use real incomes data of graduates from different family background and occupations. ► Graduates from low educated background, more risk averse and with more uncertain incomes prefer ICL. ► Under ICL graduates exploit lower repayment burdens and higher taxpayer subsidies than under ML.