Financial Incentives Encourage Higher Ratings – Indianapolis Business Journal


Perhaps the best bumper sticker for the economy is: Incentives matter. This idea is central to thinking about behavior, including the functioning of for-profit and non-profit businesses. Here is an example from our own backyard.

From 1970 to 1990, college completion rates, defined as the percentage of college freshmen who graduate in six years, declined. However, since 1990 the trend has reversed and completion rates have increased. Our friend Kevin Mumford of Purdue University and several colleagues recently published an article in the American Economic Journal: Applied Economics titled, “Why have college completion rates increased?” They concluded that the most likely reason was grade inflation. In other words, colleges and universities now give higher marks for the same quality of student work than they did in the early 1990s.

They estimate that “changes in freshman grade point average account for 95% of the change in graduation rates.” In one dataset, freshmen “had lower pre-college math percentiles…(but)(d) despite this drop in readiness, college freshman grade point average increased from 2.44 at 2.65”. They also report that “the first-year GPA for all students goes from 2.68 to 2.79.” Students get better grades while working more hours in paid jobs and studying fewer hours for their courses. In a school that had given the same test for many years, students were scoring lower on tests while earning higher marks.

What explains this relaxed classification? Incentives! The authors note that, since the 1990s, “the number of state policies that tie funding for higher education to higher education completion via performance-based funding mechanisms has increased. … Increased attention to graduation and performance-based funding is driving schools to increase graduation rates. They conclude, “Why did grade point averages increase between the 1990s and 2010s? A likely candidate is the recent focus on college completion rates. … Changing graduation standards is an inexpensive way to increase graduation rates.

Some might support higher grades for the same work because it helps more students graduate faster. On the other hand, others might think that lower standards mean more students graduate without the skills a college degree is supposed to signal, to the long-term detriment of the economy and society.

We will focus on the effect of incentives and let the reader decide whether these effects are positive or negative for students, employers, and the economy. We look forward to further research and information on the subject.•


Bohanon and Horowitz are professors of economics at Ball State University. Send your comments to [email protected]


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