The returns to literacy skills in Australia

Most investigations into the returns to training include educational attainment and labour market experience as determinants of earnings. The authors of this study propose that individual skills may also explain why some workers earn more than others.

This research investigates the relationship between literacy skills and the incomes of workers in the Australian labour market through the use of the Survey of Aspects of Literacy (SAL) and the Adult Literacy and Life Skills (ALLS) Survey. It also estimates whether the return from literacy skills changed between 1996 and 2006, and how returns vary with level of education.

Key messages

• Both educational qualifications and literacy skill levels are positively associated with income among full-time male and female employees. In addition, within broad education levels (university-level qualifications, vocational education and training qualifications, and no post-school qualifications), income increases with literacy skill level.
• Highly educated workers experience higher returns to literacy skills than workers with low levels of education. However, the returns to literacy skills held by workers with low and medium levels of education have increased over time in some cohorts, although not for workers with high levels of education.  
• There was no change in the magnitude of the return from literacy skills between 1996 and 2006 at the aggregate level.

Given that both qualification level and literacy skills are important in determining wages, an implication is that the quality of the qualification is important. Those qualifications that offer improvement in literacy skills, in addition to technical skills and knowledge, will provide the best returns for workers.

Tom Karmel
Managing Director, NCVER

Skills are typically unobserved; hence we know very little about the extent to which individual skills affect the remuneration of workers. This is unfortunate because it seems likely that the skills of workers explain a considerable part of their earnings that may not be attributed to formal education. Moreover, an understanding of earnings differentials within various educational categories requires knowledge about individual skills.

Over recent decades, income inequality has increased in many industrialised countries. Existing studies have typically attributed this to skill-biased technological change, which raised the demand for highly educated workers relative to less-educated workers and resulted in a higher earnings gap between these two groups. While the economic literature finds that the earnings premium paid to college graduates in the United States has increased considerably since the 1980s, the earnings gap between highly educated and less-educated workers in Australia has remained largely stable over this time. Against this background, our analysis contributes to the literature by focusing on the returns to workers from skill accumulation. Our data further allow us to investigate changes in the way skills are rewarded in the labour market across the educational spectrum.

In this study, we examine the rewards for individual literacy skills in the labour market, paying particular attention to the relationship between literacy skills and the incomes of full-time employed workers aged 25−64 years in the Australian labour market. We take advantage of the opportunity to use data that contain the literacy skill measures of workers, because this allows us to study income differences in the return from the literacy skills of workers with varying levels of education. We further consider changes in the returns to skills among workers to assess whether the rewards for literacy skills in the labour market changed between 1996 and 2006. Literacy skills may also contribute to the likelihood that individuals are employed full-time but, like most studies of human capital earnings functions, we focus on their effect among full-time workers. 

We use two surveys conducted by the Australian Bureau of Statistics (ABS) ten years apart: the 1996 Survey of Aspects of Literacy (SAL) and the 2006 Adult Literacy and Life Skills (ALLS) Survey. A household-based survey of Australians, the Survey of Aspects of Literacy collected information about the current income of workers and the literacy skills of individuals. The Adult Literacy and Life Skills Survey can be treated as a later iteration of the Survey of Aspects of Literacy, with a similar survey size, design features and overlapping questions. Although the two surveys are based on different samples of the population and therefore do not permit a longitudinal analysis, they enable us to examine changes in the returns to skills and other relevant determinants of individual earnings, including formal education.

Our analysis adopts a modified version of the standard human capital earnings function, in that we are able to add measures of the literacy skills of individuals to educational attainment and (potential) labour market experience as key determinants of earnings. We are able to estimate whether the income payoffs to these phenomena were different in 2006 compared with 1996. Further, we study changes in the skill−income profiles of male and female workers over time to find out whether changes in the returns to skills were different across the distribution of education.¹

We are particularly interested in answering the following questions: How do literacy skills affect the incomes of Australian workers? Have the rewards from the literacy skills of workers become increasingly important in the labour market? Were changes in the returns to skills different across the educational distribution?

The major findings and their implications are highlighted in the points below:

• Both observed literacy skill levels and educational qualifications are positively associated with income among full-time male and female employees. The inclusion of literacy skills lowers the estimated income effects of qualifications; hence, both education levels and literacy skill levels are important in determining income.
• Having a vocational or university education is associated with a higher income compared with having a lower level of education. This return from education has not changed significantly over time.
• Within broad education levels (corresponding to university-level qualifications, vocational education and training [VET] level qualifications and those without post-school qualifications), income increased with literacy skill level. Hence, within education levels, the labour market operates in such a way that more skilled individuals receive better remuneration.
• There is no evidence of any change in the magnitude of the return from literacy skills between 1996 and 2006 at the aggregate level. This result suggests that technical change in Australia was not skill-biased in this period, in terms of favouring highly educated workers, as has been found in other industrialised countries.
• Highly educated workers experience higher returns to literacy skills than workers with low levels of education. However, the returns to the literacy skills of workers with low and medium levels of education have increased over time in some cohorts, although this was not the case for workers with high levels of education.