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Why do college costs outpace inflation?
Tuition and other costs, not including room and board, rose on average to $6,185 at public four-year colleges this year, up 6.6 percent from last year, while tuition at private colleges hit $23,712, an increase of 6.3 percent...In recent years, consumer prices have risen less than 3 percent a year, while net tuition at public colleges has risen by 8.8 percent and at private ones, 6.7 percent.
Etc., and please note that explanations for high costs (i.e., lazy professors who won't blog) do not automatically translate into explanations for rising costs.
Rrecall that 78 percent of the buyers in this market choose the public sector. Tuition is going up because it can, to paraphrase the old saw about the dog (or is it the monkey?). But too big a sticker shock across one year would irritate voters, who might then insist on tighter regulations on public sector higher education. Think about the equilibrium. Many state schools could earn more money by forgoing state aid and raising tuition to profit-maximizing levels, or some approximation thereof. Step-by-step, we are moving toward some version of this outcome.
Why do low-tuition goodies for middle class parents no longer figure so prominently in the political calculus? Could it be the aging of the population? Or simply that some schools tried raising tuition and found that it did not backfire?.
If the market discounters -- who capture 78 percent of the customers -- can raise their price, so can the other suppliers.
If more people want to get into Harvard, Harvard doesn't have much incentive to increase the size of a yearly class. The academic departments don't want to lower standards by hiring more professors or adjuncts, and the development office seems OK with just raising the size of the required bribe for admission, rather than hoping that a bigger class means more donations thirty years from now.
At the same time the returns to skilled labor are rising, so many people even feel they're getting their monies worth. Toss in a dash of Robin Hanson's "showing that you care" ("I'm sorry Johnny, but we won't be spending a penny more on you") and the market seems to hang together.
Nor do universities have the best governance structures for controlling costs. Here are some good comments on the problem.
Posted by Tyler Cowen on October 24, 2007 at 07:45 AM in Education | Permalink
Comments
Alchian wrote extensively, and quite well on this problem. I'd point readers to his work for further guidance and thoughts.
Posted by: Fundman at Oct 24, 2007 8:12:56 AM
Greg Mankiw had a great blog post on this a long time ago dealing with the rising costs of input, greater ROI(both these points are interlinked) and Baumol's cost disease.
Posted by: sa at Oct 24, 2007 8:16:47 AM
"monies" --> "money's"
Posted by: James at Oct 24, 2007 8:28:24 AM
I've been interpreting this as Baumol's disease (instruction largely hasn't changed throughout history though new mediums for distribution and class management have popped up which would improve quality but not traditional productivty measures of widgets/hour worked) magnified by popular trends, specifically the shift to an emphasis on research (thereby reducing the # of classes per instructors), a ratings driven emphasis on smaller class sizes (thereby decreasing the # of students per instructor) and the inevitable bureaucratization of academia (thereby increasing the # of administrators per instructor). The net effect being a significant increase in the # of man hours required to deliver 1 hour of student-instruction.
In light of this post, I reminded that it takes two to tango (and complete a transaction), so perhaps I should modify my causes as 1) producers' delivery costs are being driven up because instruction is a service industry typically subject to Baumol's which is exacerbated by current academic trends and 2) consumers who are relatively insensitive to cost.
I figure the consumer will eventually stop being so insensitive to price and technology (lecture on DVD with expert systems trained to handle most questions; automated grading and assignment generation) will make inroads into academia which will finally drop costs. As a side note, if this follows trends in other industries, when academia finally gets on the technology bandwagon (like stock trading which used to be a very service-like field), the superstars should see tremendous increases in compensation even while industry costs as a whole go down.
Posted by: Jody at Oct 24, 2007 8:29:10 AM
I'm not so keen on the cost disease explanation. There are plenty of technological imnprovements in education, you are reading one of them. Of course colleges may or may not use them. More specifically, when college tuition goes up six percent a year, it is not because economy-wide wage boosts have driven an increase in college costs. And since the earlier prices were not maximizing net revenue, the change seems to be on the price constraint side, not the cost side.
Posted by: Tyler Cowen at Oct 24, 2007 8:41:59 AM
I went to college in the 70s and am now the parent of college students. Extrapolating from my experience: the increased participation of women in the labor force gives households income that gets sucked up into (a) higher housing prices and (b) higher college prices.
Posted by: howard at Oct 24, 2007 8:52:11 AM
One thing to note on "rising college costs" is that the 6% increase is in the sticker price - there is also greater price discrimination going on now because bigger financial aid and merit based scholarships are being given out.
Posted by: Erik at Oct 24, 2007 9:09:54 AM
Note that Princeton has deliberately increased the size of the student body by a significant margin (25%? 50%?) over the last decade. Are Princeton's incentives that different from Harvard?
The official explanations BTW were rooted in economic analysis of the returns to ivy league degrees, and specifically the idea that returns are highest to expanding the number of lower family income/minority students able to attend an ivy.
If they analyzed alumni donation rates among this group as opposed to other groups, I'm not aware of their publishing it.
Posted by: DK at Oct 24, 2007 9:21:06 AM
First of all, I'd guess increasing returns to college education has caused a rise in demand. Because education is mainly signalling, existing schools have a ton of market power as Harvard is selling almost a completely different product from State U.
Posted by: josh at Oct 24, 2007 9:24:22 AM
Showing that you care seems to be a luxury at the society level - medicine and education have both been rising as a fraction of income. Is there any category of showing-you-care spending that has fallen with income?
Posted by: Robin Hanson at Oct 24, 2007 9:27:53 AM
Why are health care costs rising? Because the expense is borne largely by someone other than the customer: insurance companies or the state.
Why are education costs rising? Because the expense is largely borne by someone else: parents, the state, and company reimbursement programs.
When someone else is picking up the tab, there's little incentive for students to demand efficiency.
Posted by: Joshua Holmes at Oct 24, 2007 9:28:41 AM
Arnold Kling had a great article on this, a while ago:
Education is at the center of the information age, and it is a driving force in economic growth. The information age is characterized by economies of scale, with diseconomies of scope. Ironically, college education is stuck in some industrial-era habits.To take advantage of economies of scale, information-age companies must make their products inter-operate. Cell phone calls have to reach people with different providers. Computer software companies must go as far as they can to make their products inter-operable without eliminating proprietary advantages altogether. In the 1990's, Microsoft thrived because its competitors failed to provide the level of inter-operability with third-party hardware and software that the Evil Empire delivered. The Internet took off because its protocols provide inter-operability.
Colleges are not inter-operable. My daughter's calculus course at the University of Rochester could not be used to meet the math requirement at the University of Maryland. You would think that she was trying to repair a General Motors car with a Ford part. In higher education, inter-operability actually has declined in the past thirty years. When I was in college, it was relatively easy to transfer and stay on track to graduate in four years. Now, doing so can be difficult or even impossible.
Posted by: Adam at Oct 24, 2007 9:31:34 AM
Increased price discrimination is a big factor. The rise in the sticker price is very different from the rise in the average cost to the attendees. I would think that an economist would focus on the latter, but all I'm hearing about is the former.
Also, effective demand has been significantly spurred over the last 30 years by the government with the availability of subsidized loans. With more money available to more people, how else would college tuition costs have responded over that period?
Posted by: M. Hodak at Oct 24, 2007 9:37:08 AM
I agree with Howard's comment on housing and tuition [and taxes] eating up the extra income from women entering the workforce. When my wife goes back to work, she will work for tuition and family vacations.
I think the schools admission offices are getting to be as bad as car salesmen with astronomical tuition costs, with price reductions in the form of merit scholarships, trying to induce a "sale".
Posted by: anotherdave at Oct 24, 2007 9:44:56 AM
Tyler,
I'm sticking with cost disease. It's worth noting (as Baumol and Bowen did themselves) that there is mass production in the arts as well, so in the original context the cost disease is not that the cost of entertainment rises, it's that the cost of /live/ entertainment rises (whereas mass produced entertainment is effectively free or close to free). Likewise, in my undergraduate course on sociology of the mass media I explain cost disease by pointing out that my students could be getting basically the same information from Caves' book "Creative Industries" for $20 from amazon as they do from my course for about $1000 tuition. There was some dialog to similar effect in "Good Will Hunting." Nonetheless, there is continued strong demand for the premium version of education, in part because most people learn more from lectures than books and mostly for the signaling function.
Posted by: Gabriel Rossman at Oct 24, 2007 9:51:28 AM
First, consider the role of financial aid subsidies in underwriting increases in tuition.
Second, as a Masonomist, you have to appreciate the private sector solution to the underlying combination of market and government failures.
Posted by: Ironman at Oct 24, 2007 9:56:22 AM
The (too) simple explanation is that a college or university - or education, generally - enjoys none of the productivity increases that private sector growth does. Labor costs grow at rate equal to wage growth minus productivity growth. Since academic credits accumulate at a fixed rate (15 per term, e.g., with 120 required to graduate), there is little to no difference in undergraduate productivity.
If allowed, a student taking 3 extra credits per semester could graduate one semester early, effectively reducing the cost of college by 12.5%. AP credits would also do the same thing.
Posted by: Mike D at Oct 24, 2007 10:03:09 AM
I hear a lot about signallin from people and I agree that for a certain class of people it is important but is it really important for everyone. If employers seek a bundle of character traits + IQ whcih college signals, can't it be done cheaper somewhere else. I see the real culprits as the middling universities which charge premium prices but can't deliver on that scale because of various reasons.
The most intereting thing about all this is the strong correlation between college costs and later lifetime earnings in a study bu Krueger,et al. This data factoid might have been an artifact of the last thirty years and might not be repeated but it is worht keeping in mind.
Posted by: sa at Oct 24, 2007 10:07:00 AM
"Not including room and board"? That seems really deceptive. The state colleges I've seen face a lot of pressure to keep tuition down, because that figure gets widely advertised and it's politically important for it to be seen as within the reach of less affluent state residents; however, they are also perennially not getting the funding they need/want from the state, and they're making up the difference precisely in room and board. I mean, room and board can be easily half the cost of attendance at a state school, and once you factor that in the total cost of attendance at publics is much closer to privates. (Not even considering out-of-state tuition, which can rival that of privates -- you find your cash cows where you can get them, I guess.)
Another factor I didn't notice anyone mentioning in this thread is demographics. Baby boom echo means the number of high school seniors has been at an all-time high lately. I spend a lot of time helping high schoolers with college admissions, and it's dramatically more competitive than it was a decade-ish ago when I was applying -- way more students, not substantially more slots at the most desirable schools. There also seems to be a lot more emphasis on those top 20 or 30 US News schools, even coupled with a disbelief that any other schools are any good (but maybe that's less a change over time as the difference in my perspective -- went to a high school where almost no one went to out-of-state colleges, now live in a wealthy suburban area). Why shouldn't price be going up dramatically with increased demand? The number of high schoolers will start decreasing soon, and I'd like to see what happens then with prices.
Posted by: Andromeda at Oct 24, 2007 10:19:56 AM
There was a New York Times article a while back arguing that parents and students look at the "sticker price" of a school as a sign of prestige. Thus, a lot of schools actually raise their price to increase demand.
However, schools are generally offering scholarships that compensate for the increased cost, from other accounts that I have seen, so I wonder if anything else accounts for this 8% rise in student debt. Rent for apartments has also outpaced inflation, for example.
Posted by: Keith at Oct 24, 2007 10:20:05 AM
I think most things that are subsidized are inflationary, and most things which are freely traded are deflationary.
It's not just healthcare and education; it's also agribusiness, and dare I speculate, law and defense.
I think Stigler wins his Nobel on this?
Posted by: caveat bettor at Oct 24, 2007 10:20:50 AM
Oh, while we are talking subsidized = inflationary, oil counts too. And residential housing. This totals to an absolute majority of the economy, almost 2/3. Roughly 3% defense, 4% education, 5% law, 6% agribusiness, 7% oil, 15% medical, 25% residential housing. My estimate is real sustained inflation of 5-10% in those sectors, real sustained deflation of 2-4% elsewhere, summing to a real doubling of the relative size of subsidized sectors in 5-10 years. This tends to be the core of my long-term economic model of the US economy.
Posted by: michael vassar at Oct 24, 2007 10:48:33 AM
(1) Colleges as consumption goods - don't forget the demand side ... Listening to higher ed administrators blame rising tuition on rising faculty costs, rising facilities costs, etc. feels to me like the owners of the New York Giants telling their fans that ticket prices are rising so fast because player salaries are increasing so much. So, student demand is partially responsible - one thing that has been changing over time is that college educations are becoming much more of a consumption good, and our increased wealth (and smaller families) are encouraging families to lavish these consumption goods on their children.
I went to a tiny liberal arts college with a billion dollar endowment. It looks like a country club ... but nicer. Who wouldn't want to live in brand new high-tech dorms with dozens of similar people? Who would not want to enjoy state of the art athletic facilities? Who would not want to enjoy free music, plays, lectures, social events all year long? Who would not want to meet potential partners? And so on.
(2) Accreditation and competition ... compared to other industry sectors, there are simply not as many births and deaths of firms in this sector as you would imagine given the scale and scope of the marketplace. The cartelization of higher education due to the system of accreditation is an underappreciated problem. Try starting your own college. Coupled with increasing demand, this can help explain rising tuition.
(3) An explosion in the use of strategic enrollment management techniques have allowed more and more schools to price discriminate and more effectively target financial aid to achieve various institutional goals. 25 years ago, this practice was virtually non-existance. Now, most institutions have institutional research offices working on price sensitivity and recruitment analysis, and a large number of firms are now offering this consulting service.
(4) Peer effects. There is an excellent literature begun by Gordon Winston at Williams College and by Michael Rothschild and Larry White on how students are both consumers and producers in the production of higher education. These peer effects might be increasing in importance over time. From the student end, demand for spots at top schools or schools with favored programs will increase as a result, but also so too does the desire for schools to subsidize these students to convince them to come.
Looking for one answer to this question is probably not fruitful. Nor do I think that rising sticker prices are a problem. In fact, one might properly look at how the net price of college (at various types of institutions) has changed over time relative to various measures of the income of its constituents. Compared to average incomes, the cost increases have not been as exaggerated, and have been relatively flat for the two year community colleges. But I would like to see someone look at the income of actual college attendees and how that compares to net cost increases, I am not sure you would even see an upward trend. Again, for my alma-mater while they boast a large share of their entering class as being diverse, I imagine that the median income of families sending children there is very high. Just thinking about my suitemates in college - the median income for the 6 of their families exceeded $200,000 and that was 12 years ago.
Posted by: wintercow20 at Oct 24, 2007 10:53:10 AM
Please see Kevin Carey's comments at "The Quick and Ed" for another reason why tuition may be rising...college rankings:
http://www.quickanded.com/
Scroll down to "Least Surprising Education Headline of the Year"
enjoy.
Posted by: js at Oct 24, 2007 11:02:24 AM
I'm surprised no one has mentioned that college is heavily subsidized. That may tend to lower prices, but it also works like insurance does. The people paying the cost of college don't bear the costs themselves. "So what if college costs rise 6%? I'm not paying for it, my interest free student loan is."
Posted by: King Rat at Oct 24, 2007 11:08:12 AM
