Executive Summary: “Tied Transfers” by Meta Brown, Maurizio Mazzocco, John Karl Scholz, and Ananth Seshadri

While a great deal has been written about cash transfers from parents to children, few empirical or analytic papers examine financial transfers that are tied to post-secondary education. In “Tied Transfers” we propose a simple model that pins down the timing, magnitude and form of parent-child transfers. Unambiguous predictions arise in the presence of non-cooperative behavior and earnings risk. Our model makes two key predictions. First, tied transfers diminish subsequent cash transfers. Second, a parent’s educational expenditures, as a fraction of total family investment in the child’s education, increase with parental wealth and altruism. The intuition underlying this prediction is that wealthier and more altruistic parents have a greater economic incentive to curtail strategic behavior on the part of their children and do so by tying more of their transfer dollars to education.

We find support for these predictions in recent data from the Health and Retirement Study (HRS) and the Wisconsin Longitudinal Study (WLS) on parents’ gifts of cash and college tuition, wealth and reported economic altruism toward their children. In order for parents to value tied transfers for reasons other than obligation or taste, transfers must increase children’s future resources. Our theory predicts that this, in turn, diminishes parents’ future transfer liabilities. Data from the WLS allow us to determine the history of cash and educational transfers from WLS respondents to their children between 1975 and 1992, when respondents were aged roughly 36 to 53. We find that, within families, WLS parents give $0.36 less in post-schooling cash transfers for each $1 expended on a child’s education, suggesting that tied transfers do in fact decrease parents’ transfer liabilities.

The HRS contains considerable information on parent-child transfers.  We find that parents who are wealthier, more economically altruistic, and otherwise more susceptible to future transfer liabilities pay for greater shares of their children’s education, controlling for observable components of the total educational investment. While financial aid standards in the U.S. provide an alternative explanation for the relationship between parental wealth and the share of tuition a parent pays, no financial aid formula includes parents’ responsiveness to children’s financial need. It is this responsiveness that generates the child’s opportunity for strategic behavior, and therefore the measured association between parents’ responsiveness to children’s financial need and the extent to which parents exploit the opportunity to tie transfers provides support for the strategic model.

Our theoretical analysis implies that strategic incentives distort family investment decisions away from the efficient path. Parents invest more in their children’s education where families interact non-cooperatively than where they achieve the efficient frontier, and the extent of the distortion increases with parents’ wealth and altruism. As evidence builds on the extent to which students from wealthy families are over-represented at Ivy League and flagship state universities, our research offers a new perspective on more and less wealthy parents’ differing incentives to educate their children.