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June 17, 2012

The 12 Reasons College Costs Keep Rising

                                      By Richard Vedder

When asked the question, "Why do colleges keep raising tuition fees?" I give answers ranging from three words ("because they can"), to 85,000 (my book, Going Broke By Degree). Avoiding both extremes, let's evaluate two rival explanations for the college cost explosion, followed by 12 key expressions that add more detail.

University presidents and some economists (e.g., David Feldman and Robert Archibald) often cite the Baumol Effect (named after a Princeton economist), arguing that higher education is a service industry where it is inherently difficult to raise productivity by substituting machines for humans. Teaching is like theater: it takes as many actors today to produce King Lear as it did when Shakespeare wrote it 400 years ago. While there is some truth to the argument, in reality technology does allow a single teacher to reach ever bigger audiences (using everything from microphones to streaming video). Moreover, in reality a majority of college costs today are not for instruction--the number of administrators, broadly defined, often exceeds the number of faculty.

The second explanation comes from former Education Secretary Bill Bennett: rapidly expanding federal student financial assistance programs have pushed up college prices, so the gains from student aid accrue less to students than to the colleges themselves, financing an academic arms race. Recent studies (by Stephanie Rieg Cellini and Claudia Goldin, Andrew Gillen, and Nicholas Turner) support the Bennett Hypothesis. Student aid has fueled the demand for higher education. In the market economy, increased demand for a product made by one company (say the iPhone) quickly spurs competition (other smart phones), so prices do not rise. That fails to happen in higher education, as many providers restrict supply to enhance prestige. Harvard has an Admissions Committee, McDonald's does not.

Now to 12 expressions that help explain the college cost explosion. The first is third party payments. When someone other than the consumer is paying, at least temporarily, some of the bills, the customer is not very sensitive to prices. Health care prices have soared for that reason, and it is contributing to the college price explosion as well.

Second is lack of information. For markets to work effectively, buyers and sellers need lots of information. Yet colleges (in the information business) and their customers, are remarkably ignorant about key aspects of higher education. Do seniors know more or think better than freshmen? Does the senior year add as much value to a student's knowledge, sense of right or wrong, leadership or critical thinking skills, etc., as the sophomore year? How much do students apply themselves? Do they like their school? What do they earn five years after graduation? Does a sociology degree have the same vocational relevance as a degree in accounting or mechanical engineering? Answers to these and many other questions would help students and academic administrators make intelligent resource allocation decisions--yet no answers are available.

Third, most higher education is not for profit. While most academics view that as a great virtue, I don't. The lack of a profit motive reduces incentives to cut costs, improve product quality, and other things necessary to make profits and enhance wealth in the private market economy.

Fourth, closely related is the term bottom line. General Motors and Wal-Mart have well defined bottom lines--the stock price and profits. What is the bottom line for Harvard or Slippery Rock State? Who knows? How can you achieve goals if you don't know, in a well defined sense, what they are? How can you get "more productive" when you cannot even measure your outputs well?

Fifth, resource rigidities are a problem. Tenure makes it hard to move faculty resources from areas of low demand to those of higher demand. Faculty with lifetime appointments can fight innovation and change with relatively few adverse consequences, stifling innovation. Universities own large buildings that often get little utilized, particularly after changing consumer demand renders some of them obsolete or underutilized.

Sixth, there are problems with barriers to entry and restrictions on competition. Both accreditation agencies and regulators make it difficult for small but innovative new institutions to begin. For example, proposals to require "state authorization" of on-line instruction in every state an institution operates forces smaller on-line companies out of the market in some states.

Seventh, the public nature of support and control of schools containing most students means that higher education is now, in some sense, politicized. Universities have to conform to rules in order to get government grants or allow students to receive student loans, and not always do these rules make sense, having a "one size fits all" dimension to them.

Eighth, universities try to charge what the traffic will bear, engaging in massive price discrimination, favoring some students (poorer ones, extremely bright ones, those with preferred skin colors) more than others (more affluent, less bright kids, those whose skin color is less desirable).

Ninth, universities engage in rent-seeking--receiving more payments than necessary to provide services. Workers sometimes receive inflated salaries not justified by market conditions or merit. Salaries are higher for those who get research grants for time off from teaching to do research, compared with those who continue to teach full loads.

Tenth, many schools, especially large research universities, engage in massive cross-subsidization, showering vast resources on some activities, such as graduate education, while providing little for, say, undergraduate instruction. Lower teaching loads to promote research are subsidized by tuition fees ostensibly paid to provide for student instruction. This increases tuition sticker prices.

Eleventh, ownership of universities is murky. Many groups think they own "their" school--the faculty, the trustees (the legal owners usually), the alumni, state government officials, sometimes even students. This leads to turf wars and unproductive wastes of resources; for example, the chemistry department might forbid others from using "their" building, even though it might be wiser to use some of the space for other needs.

Lastly, there are often massive governance problems often. Who runs the schools? There are several who claim that right, leading to murky decision-making, often by committees ("shared governance") of a non-innovative nature to appease all powerful claimants on power.

What to do? The key to change is found in three "I" words--information, incentives, and innovation. Information is key to making intelligent decision-making, yet often the incentives are lacking to do the cost-cutting, innovative things necessary. If good information and incentive systems are in place, innovation will take place automatically: necessity is the mother of invention.

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Richard Vedder directs the Center for College Affordability and Productivity, teaches economics at Ohio University, and is adjunct scholar at the American Enterprise Institute.



Comments (23)

EB:

This is a great list, bringing together all of the main explanations for rising costs. However, there is something else that needs to be said about: "Third, most higher education is not for profit. While most academics view that as a great virtue, I don't. The lack of a profit motive reduces incentives to cut costs, improve product quality, and other things necessary to make profits and enhance wealth in the private market economy."

When the product, higher education, is so high-stakes for most consumers, when there will be no opportunity (or opportunity only with difficulty) to re-do the years between 18 and 25, when geography enters in so substantially, and the cost to individuals if they purchase the educational equivalent of an Edsel is so high, most of us are reluctant to trust the for-profit, free-market model.

JorgXMcKie:

"most of us are reluctant to trust the for-profit, free-market model"

Yeah, our current Edsel [or Yugo] is doing so well, who would be hesitant to trade it in?

Lester:

There is one more problem - affirmative action.

Affirmative action opens up colleges to otherwise non-academically qualified blacks. These AA admissions cannot compete in regular classics or STEM. So the colleges create pass-along black studies programs. The black studies programs (and other diversity offices) have to create administrative positions to get these people jobs. Hence, a great deal of the administrative bloat. My hypothesis is that if all colleges eliminated AA they would be back in the black - so to say.

Jon A. :

One factor that may be driving up costs is spending on physical infrastructure. Colleges have been on a building and expansion binge for the last 20 years. And the problem is, once you've built all that stuff, if there is a contraction, you can't easily unload it, particularly for specialized buildings like gymnasiums. I also wonder whether they have been paying for their new construction with cash on hand, or if they are mortgaged up to their necks.

Richard Allen:

Pretty much nails it. For the public sector, I would add cost shifting. In other words, substitution of tuition to replace lost state appropriations. Not necessarily a increase in total costs but a shift in who pays.

B.Beckner:

This article fails to mention a significant contributor to the problem: universities and colleges are not run for the benefit of students. Students are incidental to the principal self-perceived purpose of colleges and universities, which is "scholarship" by their faculty. To be sure, there are many faculty members who enjoy teaching and who are good at it. But the institutional reward system at colleges and universities is not based on pleasing students, it's based on research output ("publish or perish"). Under that system of incentives, it's no wonder that teaching students, especially undergraduates, is almost a "necessary evil." Until very recently, a college or university has been only somewhat concerned with what the student actually learns, and even that concern is usually expressed at the macro level as "safeguarding the quality of [named of college] degree. It is well-known among lawyers who recruit law students that graduates of one of the most prestigious law schools often have a hard time passing the bar exam. Our current secretary of state is one of them, and the District of Columbia Bar (which she failed initially) is nowhere near as tough as, say the New York or California Bar exam. Of course, reasonable persons can differ over whether it's more important that a new lawyer know what it takes to pass the Bar exam or what it takes to get through Yale Law School, but I have always found it an interesting data point.

Brian:

Yes, these 12 items are factors, but he left something out: 13) Declining state support. 40ish years ago, public universities, on average, received close to 70% of their funding from the state government. Today, that average is under 40%. Who do you think will make up that difference? The students.

It is very, very easy and convenient to blame only the institution. Yet, more and more demands are being placed on colleges and universities, while their funding is being decreased. Higher education is expected to do more with less, year after year; that expectation is impossible, and therefore the costs are deferred to the student.

Fred the Fourth:

"in reality a majority of college costs today are not for instruction--the number of administrators, broadly defined, often exceeds the number of faculty."
This is also certainly the main driver of costs in K-12 public education as well, since at least 1970. Except one ought to substitute "greatly" for the word "often", at least in California.

ajwpip:

B.Becker talks about what percentage of the school's budget comes from state funding. This is a misleading way to analyze the situation.

School's are not doing more with less. Government's direct subsidies have increased every year over the past decades until just recently. The fact that state funds haven't kept pace with all the other revenue streams just shows how massive the tuition bubble has been. It certainly isn't a sign that the government hasn't been spending well above the rate of inflation over decades. Despite this tuition has increased even faster. This itself is also an artifact of government subsidizing student debt.

Koblog:

Rising education costs are easy to account for when dealing with tenured, unionized public teachers:

Paraphrasing what the Hitler character said in the DNC HQ YouTube sendup after the Left lost Wisconsin's recall,

"We'll leave for Sacramento, the last bastion of imbeciles and get appointed to the school board. They'll put hookers and cocaine in our benefits package if we say 'It's For The Children'...at least until they go bankrupt."

Shrikeangel:

Lower teaching loads to promote research are subsidized by tuition fees ostensibly paid to provide for student instruction.

This is not true. Teaching loads are lowered so faculty can do research. The portion of that person's time that is spent on research is paid by the grant. For example, if you get paid $60,000 for a year, and you do research 1/3 time, then the university pays you $40,000 and the grant pays you $20,000.

Furthermore, the university takes half your grant before you even see it.

Research subsidizes tuition, especially for graduate students.

Me:

Another important reason: lack of portability.

Schools cap the number of credits, and restrict the specific courses, that can be transferred. After 5th semester for undergrads, or after 2nd semester for grad students, transferring becomes more expensive to transfer than to staying put due to the number of courses that must be re-taken. Schools know this, and many reduce scholarships and grants for upperclassmen.

Seniors can't take their business elsewhere, and thus pay closer to full price than do freshmen.

Brian:

Ajwpip, the decline in state funding and the increase in federal subsidies are related, but in a more complex manner than you suggest. Federal subsidies come, primarily, in the form of student loans. Students have been forced to take on additional student loans, as tuition has risen. Tuition has risen for a number of factors, and among them is the decline in state funding. I will acknowledge the fact that schools began increasing costs after the increase in federal subsidies, because the administrators saw this as "free money." If you were look at the situation from the 70s and forward, you would find this cycle, in this order: 1) Decreased state funding leads to 2) increased tuition which leads to 3) an increase in federal subsidies (i.e. student loans) which leads us back to 1) Decreased state funding due to state budgets finding that they can rely on federal subsidies, and so on and so forth. It is an endless cycle, with one factor feeding off another

My argument is this: if you are going to list 12 factors that influence rising tuition in higher education, the decline in state funding is significant enough to deserve one of those 12 factors (or it should be mentioned as 13 if you must have all other 12 factors).

Both government and private education have their advantages and drawbacks. The problem with government education is over-regulation and bureaucracy.

The problem with private education is that it is only available for rich elites and sometimes students get passed because their parents support their children and the colleges/ universities massively monetarily. I agree with S.Thrun that we need to see the costs and efficiency, but we also need to see fairness, openness to all and standards. Accreditation and standardization is a major big problem for private colleges. Funds to be allocated for academic excellence are not a given: why should for example a private education provider invest in staff training when he could sell his product, Higher Education, without it?

What we need is a new innovative approach to academic standards, learning outcomes and delivery... not just for the rich. I reckon that S.Thrun would agree after his groundbreaking 'introduction to AI' class.


Gilbert Ratchet:

"But the institutional reward system at colleges and universities is not based on pleasing students, it's based on research output ("publish or perish")."

Oh, but it IS based on pleasing students, insofar as most students desire to get a degree with the least possible impingement on their social lives. Good teaching is hard and will often tell the student something he or she doesn't want to hear, like "you are illiterate and stupid." Much better to make the courses really undemanding, so the profs can get on with their research and the students can get back to doing drugs and screwing. No, the keeners don't like it, but since when have they ever counted for anything?

teapartydoc:

I just realized from reading this article how much economic thinking can be like medical diagnosis. In making a diagnosis one determines what problems exist and then proceeds to make a differential diagnosis by going through a mental list of categories that can bear on the problem and how those things would be affected, usually driven by how the various systems involved could be affected to produce that result. One can take the categories mentioned by Vedder and apply them to a variety of other situations in order to make a reasonable analysis of many problems unrelated to education. Methodologically, this is a very instructive article, at least for me.

richard40:

Good article. All of your points are solid. The only thing that has kept colleges from deterioriting even worse, like k1-12 ed, is that at least we have real school choice, so colleges have to compete for students, unlike k1-12. But with the other non-market factors you have cited here, even our colleges are now sucombing to the rot.

EB:

But, competition for students had not led to increased quality. It has led to declining quality, because one of the features on which colleges compete is the pleasantness of the experience for the students, including the many who want a credential rather than an education. I'm not saying theyu're wrong to want a credential, just that it's a factor in declining quality.

EB,

Yes - for profits can cheat their customers. The word gets out and they go out of business. Compare this with government supported institutions. Need I mention "studies" departments? What a massive fraud.

You are thinking "perfect" when you should be thinking "better vs worse".

Patrick McKim:

A broader reason that is simple is that education in the US has few foreign competitors. It is a captive industry. When the government debases its currency the costs of domestic product goes up unless there is better international competition. All captive domestic industries have their costs go up signficiantly in the last decade.

Another reason to me is the increase in bureacrcy and administrative load for whatever reasons. I have no stats, just anecdotal references.

Also advanced education must support entire subject areas that are add nothing productive to the national product of work. It is just consumption for subjects like women's studies and the like. What tools do they learn except to become a cog in the bureaucracy.

Okay... Here's my baker's dozen... #13

Treating students like consumers. In fact students are the universities product not their consumers, particularly in the public institutions. Consumers are defined as those who pay for the good/service. It is the rare student who does that. Everything from grade inflation through canon dilution to rigor deflation can be attributed to businesses who confuse product with consumer. Little wonder that the arms race of spa-like dormitories and sports centers has exploded among institutions competing for students as opposed to satisfying the expectations of payers.

The first time that a student stops being pampered as a customer and enters the culture of seller-with-credentials is upon either descending from the graduation stage or submitting notice of dropping-out. That abrupt shock leaves many with explosive bitterness toward "the employment system" that demands of them a "job-readiness-discipline" that consumers never experience. Hiring criteria are the first objective testing process most student/consumers have experienced in their four to seven year march to a degree.

So this confusion between consumer and product explains the "childification" of students, the explosion in capital investment (costs) per student, the collapse of rigor, and the proliferation of alternative non-academic departments/programs and confidence supporting administrators to mop up a subsidized excess of students admitted solely to check political boxes as opposed to possessing an ability to meet the momentary rigor/discipline which may remain in accepting institutions. It is a spiraling downward process.

Vfigueroa:

Jorg:

I both, get upset and chuckle, when people blame Affirmative Action for rising costs, education quality declines, etc. The rise in college costs should not be blamed on colleges catering to blacks, even if for this reason - about 12% of college students are black, so 88% are not. Are you saying that ALL 88% of those students are qualified and 12% of blacks aren't? Hope not. College are forced to spend millions on getting students ready for the demands of intense college work, regardless of that student's race. The goal of AA programs is to help blacks compete. Plus, academically, and socially, most blacks have caught up and surpassed mainstream students on many campuses. Perhaps you are seeing college officials who seek out less qualified or talented students to make a point....

Agree with Fred the Fourth. Very seldom have year-to-year spending levels decreased. The makeup of resources has changed because tuition has risen faster than state support for a variety of reasons as Mr. Vedder indicated.

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