GESO versus Yale: A simple Theory of Subsidies

Xavier X. Sala-i-Martin

Yale Business and Economics Review, Summer 1992


In this paper I show that if wage rates are too low relative to the perceived gains from disruptive activities, then economic agents may find it optimal to devote a positive fraction of their time to disrupt normal economic life. I also show that if the income of students is too close to the subsistence level, an increase in penalties (that is, an increase in the fraction of wages the university appropriates when disruptive students are caught and penalized) will not reduce the amount of such activity. The reason is that the maximum possible penalty (namely, losing all wages) may not be large enough relative to the possible benefits.

My analysis suggests that, when this situation is reached, the university should do two things: first, she should increase student's wages and subsidies (even if that implies paying them above their marginal product). Second, she should prove that she really is poor by either making her accounts public or by giving clear signals of poverty (an example of which would be a substantial reduction in the president and deans' wages).