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Rates of Return: The Effects of Human Capital on Economic Development

Guest post by: African Development Bank

Article Overview: By what criterion should an investment policy be judged? One important criterion is the rate of return on investment. What is meant by the rate of return on the investment and why is such a figure important?

Rates of Return: The Effects of Human Capital on Economic Development

By what criterion should an investment policy be judged? One important criterion is the rate of return
on investment. What is meant by the rate of return on the investment and why is such a figure important?
The rate of return on investment is comparable to the interest rate which must be paid on a loan.
Formally it is the rate of interest which ensures that the present value of the net benefits of an investment
are zero. Usually the more profitable is the investment, the more a given dollar raises future income, the
higher is the rate of return.5 If there is 1 dollar to invest it makes sense to invest it in the activity which
generates most income. Rates of return calculations simply tell us where the money goes furthest. Put
that way it may sound rather obvious that we should look at rates of return. It one sense it is, but the
problems arise because measuring rates of return is difficult.
Difficulties arise, firstly, because rates of return calculations inevitably involve assessments about
the future which is uncertain. Secondly, private and social rates of return may differ. From the point of
view of society as a whole it is the social rate of return which matters and that is particularly hard to
measure. Arguments which see the key to growth in investment in human capital are essentially arguing
that social rates of return on such investment are high. In particular they are arguing that such social returns are higher than private ones and that private markets are likely to invest too little in education.

Human Capital and Economic Development
Simon Appleton and Francis Teal

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  Introduction: Human Capital and Economic Development
  Human and Physical Capital: The Effects of Human Capital on Economic Development
  The role of human and physical capital in growth: The Effects of Human Capital on Economic Development
  Expenditure Composition and Growth

Article Tags: criterion, education, francis teal, human capital and economic development, interest rate, investment policy, money, point of view, present value, private markets, rate of interest, rate of return, rate of return on investment, return on investment, simon appleton



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