Knowledge that Transforms

We consider an individual who lacks the information-processing capacity required for a direct comparison of all feasible allocations. Instead of finding at once a best allocation, the individual myopically adjusts his current allocation toward higher utility. The individual makes adjustment errors inversely proportional to his ability to choose. We compare the stationary state of this process with the standard model. We see how an imperfect ability to choose modifies both positive and normative predictions of the standard model and how the standard model can be obtained from our more general one as the special case corresponding to perfect ability.

I model standards for educational credentials, such as high-school diplomas. Standard-setters maximize their conception of social welfare, knowing that utility-maximizing students choose whether to meet the standard. I show that more egalitarian policymakers set lower standards, the median voter would prefer higher standards (under symmetric distributions), and decentralization lowers standards (among identical communities). Optimal standards do not necessarily fall with increased student preference for leisure, deterioration of nonstudent inputs to education, or increased student heterogeneity. Superseding binary credentials by perfect information increases average achievement and social welfare, for plausible degrees of heterogeneity, egalitarianism, and pooling under decentralization.

We examine the impact of looks on earnings using interviewers' ratings of respondents' physical appearance. Plain people earn less than average-looking people, who earn less than the good-looking. The plainness penalty is 5-10 percent, slightly larger than the beauty premium. Effects for men are at least as great as for women. Unattractive women have lower labor-force participation rates and marry men with less human capital. Better-looking people sort into occupations where beauty may be more productive; but the impact of individuals' looks is mostly independent of occupation, suggesting the existence of pure employer discrimination.