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Why College Might Cost So Freaking Much

02/09/2015 02:38 pm ET | Updated Apr 11, 2015
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Over the last few weeks, I laid out two competing theories regarding why college costs so freaking much.

In this piece, I highlighted what seems to be the conventional wisdom (summed up in movies like Ivory Tower, or books like William Bennett's Is College Worth It?) which says that the fault for the high cost of higher ed can be pinned on schools that will never leave a single dollar on the table. Under this theory, no matter how much public money is spent to give kids the chance to go to college, schools will raise their tuition to capture more of those funds, and use the money to pay for ever-escalating growth, expansion and/or self-aggrandizement.

But, another theory, one proposed in Archibald and Feldman's book Why Does College Cost So Much?, holds that the hyper-inflation we've seen in the cost of college is no different than what you see in any industry that employs highly-skilled labor to deliver a service, especially a craft service like education, which cannot "scale" in the same way manufacturing can. According to this theory, so-called "cost disease" (coupled with tuition discounting that forces up the list price of college faster than it does average prices) is responsible for college prices reaching the stratosphere -- not the decisions made and priorities set by individual schools.

While the tuition discounting part of their argument is sound, the fact remains that it is average prices of tuition and fees that is rising at two-to-three times the rate of inflation. So, can the rise in this average price be pinned on general economic principles (the "cost-disease" argument) alone, or might there still be room to blame inflation in higher ed partially, or entirely, on Bennett's "greedy schools?"

Going back to the simple thought experiment Archibald and Feldman used to see how different factors impacted college economics, consider again that 100-student school that costs $2,000,000 a year to run, which receives a $1,000,000 subsidy (either from the government or the school's own endowment) which requires the school to collect $1,000,000 from students to break even.

I previously explained how this model elegantly illustrates how tuition discounting must lead to rising list prices. But, if we continue that original thought experiment, what happens if the schools comes into an extra $100,000 (let's say in the form of a new government grant)?

To Archibald and Feldman, this leaves the school with lots of choices. They could give all 100 students a $2,000 scholarship (effectively reducing tuition for everyone to $9,000). Alternatively, they could give the 50 students currently receiving a subsidy an even bigger discount (reducing their out-of-pocket cost to $7,000), while keeping sticker price the same at $11,000. Finally, they could keep their current tuition and scholarship policies intact and use that extra $100K to improve programming. Whichever choice a school makes, the authors point out, neither sticker price nor average price goes up.

But, outside the abstract world of economic theory, there is an obvious mechanism whereby a $100,000 in found money can lead to more than $100,000 in spending. For while a school might spend that $100,000 and no more to improve programming, expectation that this new revenue source will continue for many years might lead the school to decide to borrow $1,000,000, which will allow them to engage in even more ambitious program or facilities expansion. And if that $100,000 subsidy does not repeat throughout the life of the loan, the school can always raise tuition to make up the difference.

In fact, "found money" is not required for a school (or any institution) to decide to spend money it does not immediately have. Families, private companies, even the government (believe it or not) all borrow and spend money, sometimes wisely, sometimes foolishly. And, unlike a business that goes into debt to fund new product development or an acquisition binge, schools can close revenue gaps by raising tuition prices without necessarily losing market share to less debt-laden competitors ready to sell at a lower price.

So, unless colleges and universities are immune to the kind of "invest (i.e., spend) for tomorrow" mentality that impacts every other category of institution (as well as individuals), there does indeed seem to be room in the simple model created by those claiming college costs are rising due to general economic principles alone that allows schools to make choices that will lead to increases (in some cases, vast increases) in the cost to run a college -- and thus the price to attend.

Is there a way to solve this problem? Perhaps, but -- as I'll describe next time -- the cure might be worse than the cost disease (especially since the people who have to pay that price might include you).

Stay tuned.

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