Pay as You Earn
Different college graduates earn different salaries, even after graduating from the same institution. Some are less successful or lucky (and thus have lower salaries); others don't pursue maximization of their earnings, leaning towards socially-oriented not-for-profit jobs. Even if student loans are available, students may abstain from entering prestigious and expensive colleges, uncertain that they will be able to repay. This may create an inefficient allocation when most risk-loving and not most talented young people get the best education. (And then some of them fail to pay off the loans.)
Consider the following alternative to a traditional student loan which intends to solve this inefficiency problem. A student enters college tuition-free, and after graduation, they pay the college a certain percentage of their salary for a fixed number of years. So, a student never has to pay for their education more than they earn after receiving it. The income percentage to be paid is calculated based on an average graduate's salary, so the program should finance itself.
(a) (20 rp) Despite its apparent advantages, this type of education financing is uncommon. Skills training programs (such as coding academies and bootcamps) are more likely to offer it than prominent universities. Explain why the program designed as described above may fail economically in a large university but is more likely to be feasible in a bootcamp.
In large colleges and universities, the students are very diverse in terms of future incomes — much more diverse than in specific skills training programs. If you come to such a program to learn to code on Python, the set of skills you acquire and the salary you'll earn with these skills are more predictable for the education institution than if you enter a long-term program. Notably, a student has more information about himself/herself than the institution or a bank. Those students who enter undergraduate studies and aspire to make a career as a high-paid professional are unlikely to go for ISA. On the other hand, students who think about jobs in the non-commercial sector will go for it because, for them, it's just cheaper than conventional credit. So, only low-paying individuals will go for ISA, and the program will fail economically. This problem is known as adverse selection.
(b) (10 rp) Suggest a tweak to the program conditions, which might help solve the problem mentioned in (a).
Comment. This scheme of payment for education is often referred to as Income Sharing Agreement (ISA). One of the most famous examples of an institution using it is Lambda School (https://lambdaschool.com, coding school and bootcamp).
One of the ways to change the design of the program (that is used sometimes in ISA) is not to calculate an income percentage to be paid based on the average graduate's salary, but cap the absolute amount. This will stimulate high earners to participate because they won't be penalized for earning more. In this case, the problem of adverse selection will be (at least partially) eliminated, although the percentage to be paid will likely increase.