Education Reform in General Equilibrium: Evidence from California's Class Size Reduction

Abstract

This paper sheds new light on general equilibrium responses to major education reforms, focusing on a sorting mechanism likely to operate whenever a reform improves public school quality significantly. It does so in the context of California’s statewide class size reduction program of the late-1990s, and makes two main contributions. First, using a transparent differencing strategy that exploits the grade-specific roll-out of the reform, we show evidence of general equilibrium sorting effects: Improvements in public school quality caused marked reductions in local private school shares, consequent changes in public school demographics, and significant increases in local house prices – the latter indicative of the reform’s full impact. Second, using a generalization of the differencing approach, we provide credible estimates of the direct and indirect impacts of the reform on a common scale. These reveal a large pure class size effect of 0.11Iƒ (in terms of mathematics scores), and an even larger indirect effect of 0.16Iƒ via induced changes in school demographics. Further, we show that both effects persist positively, giving rise to an overall policy impact estimated to be 0.4Iƒ higher after four years of treatment (relative to none). The analysis draws attention, more broadly, to conditions under which the indirect sorting effects of major reforms are likely to be first order.