Optimum College Admissions, Taxes and Tuitions When Completions Is Uncertain

Abstract

A family considers whether it might, at a point some years in the future, send its child to college. At that future point, the child's pre-college achievement determines the potential gain in human capital and the probability of completion. Years before the family reaches this decision point, it views pre-college achievement as a random variable. Moreover, the risk in pre-college achievement is a risk that can be insured. The contract theory of college finance considers optimum insurance contracts for this risk and views public finance of college education as providing the insurance. It yields conditions on optimum taxes and fees, and it implies that rationing by ability occurs at the margin between matriculating and not matriculating.