Optimal student allocation with peer effects

This paper studies an optimal assignment problem of heterogenous students to schools with a particular kind of preference complementarity: peer effects, defined by the average ability of those in the same school. The tractability of the problem allows us to characterize the optimal assignment mechanism, which has a simple “(stochastic) pass-fail” structure. Its shape is mainly determined by the convexity/concavity of the attainment function, interpreted as the preference for/against having diverse-ability students in different schools. We also provide comparative statics as to when more or less mixture of heterogenous ability types would be desirable.