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.

Comments

Alchian wrote extensively, and quite well on this problem. I'd point readers to his work for further guidance and thoughts.

"monies" --> "money's"

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.

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.

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.

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.

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?

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.

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.

"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.

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?

(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.

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."

Why is milk more expensive than Coke? It's more difficult to make Coke than milk ... so why is milk more expensive?

Could it possibly be because of the government subsidies? Farm subsidies. Oh ... that's what economist's love to talk about ... how many blog posts do we get on farm subsidies? ... but bring up higher education subsidies and ... it's a demand side thing? ... Please.

The banks are also getting a nice little free ride from the government on this one ... they get to give the loans and take the interest while the government holds the risk ... it's a beautiful thing if you run one of the major banks in this country. Ever wonder why the banks use so many lobbyists?

Isn't accreditation an issue in cost control. Would a college that cut costs be respected by the accreditation bodies?

What if they taught half of the core curriculum using recorded lectures that change only every 4 years and utilized computer testing to evaluate student progress? I doubt calculus would suffer from that.

What if they gave tenure to professors who agreed to teach many large classes in exchange for no publishing requirement?

What if they only offered the most popular courses in a few key majors -- pre-med, pre-law, business?

Would such a school save 20% of costs and be able to be accredited as doing a good job in their chosen mission?

(BTW, both Harvard and Columbia have large expansion plans. Presumably some of that will go to increasing the number of undergrad students.)

The demand for schools like Harvard, Yale, Princeton, Chicago, Columbia, Duke, MIT etc. it through the roof. As a customer of one of the institutions, I can justify an investment of $100,000 a year being a smart investment. An econ. major out of any of these schools is almost guaranteed $85,000 a year salary. You recoup sunk costs on your investment in less than ten years and have the rest of your working life to profit. How much is the human capital garnered from a four year degree from a top school worth over your working life? From a state funded school, meh..., but from Harvard, probably >$1,000,000. School is ridiculously expensive, however it is and will always be a smart investment.

A few people have mentioned the increasing returns to education, and I think that explains the demand-side of the equation. In 1970, it was worth going $X into debt for a college degree; these days, it's worth going much more than inflation-adjusted $X for the same degree.

I think the extreme emphasis on the top 20 or 30 schools is not supportable by their actual economic value on average, despite Mike's comment above. Some few students will get vastly higher-paying jobs than they would have if they'd gone to a non-top-20 school, but most won't do that much better. However, lots of students think they'll be in the 1% that does get the $200k job on graduation.

This is easy. The price goes up because people will pay it. Costs going up mean nothing if the price cannot be raised.

Blaming the costs reminds me of my landlord raising my rent because his property tax bill went up.

The number of wealthy kids who can pay for elite colleges is increasing faster than the number of spaces in elite colleges to take them. Tastes have been shifting in favor of formal education as well. Is there any surprise that for-profit institutions seek to generate more revenue by increasing prices that the market will bear?

I suspect that the price of admission to Harvard is vastly below what it could be. I would love to see an auction system for just one year go into effect. Admissions by e-bay. How much would the last spot at Yale go for?

If tuition costs keep spiraling, universities could one day find themselves disintermediated.

Using Amazon.com and freely available Internet courses, you could theoretically acquire an undergraduate-level education in, say, mathematics or economics. However, there is no economic benefit in doing so, because an autodidact without a degree would be shut out of most professional jobs (with perhaps a few exceptions like entry-level computer programming). Universities may have already lost their monopoly on the dispensing of knowledge, but in most fields they retain their monopoly in certifying and documenting possession of knowledge, and of course they will not issue such a certificate unless you have served time as their tuition-paying customer. There is more than just signaling involved: in a very real sense, a university degree is an employment permit or passport.

However, one area already offers an alternative, which perhaps points the way to the future: foreign language learning. You can find books and software on Amazon, conversational practice partners on sites like Xlingo (and talk to them for free on Skype), podcast-based teaching sites such as ChinesePod, and so forth. Ten years ago your only options for learning, say, Chinese were making it your university major or living abroad. Now, it's perfectly feasible to do so on your own.

However, language learning is an exception for two reasons. First, there are practical benefits for daily life, so there is a motivation other than mere intangible personal satisfaction. Second, you can demonstrate or certify your knowledge independently of any diploma: for instance, for Chinese you can take the HSK exam administered worldwide by the government of China.

Perhaps some day we might see the certification of knowledge become unbundled from the dispensing of knowledge. If we ever see a $100 laptop in widespread use, some government out there might be willing to disintermediate the brick-and-mortar universities and drop the cost of an undergraduate-level education by an order of magnitude.

Demographics? The cohort of non-tenured faculty now lies firmly in the baby bust, while the echo boom is getting its higher education.

Are we distinguishing between college prices and college costs here? Seems like the two are potentially very different. Changes in public funding for education would be one factor in changing prices.

I would really like to know why this is happening. The price of attending college is rising every year and is getting outrageous. The high price is just making every person who is attending college to get ahead to fall way behind when they graduate. Congragulations here is your diploma and a bill for $60,000. Good Luck.

As a current college student, this study of the rising cost of college fascinates me. First of all, many studies have shown that without a college education you will make substansially less money over the course of your lifetime. Moreover, without the experiences had in college, many people are opened to far fewer oppurtunities, and miss out on meeting, and having to work with people from vastly different economic and social backgrounds.

But is this really worth the drastic, and still rising costs? I think so. Even during the weeks when I only attend 2 out of 10 or so classes, I still feel that I am getting my monies worth. I meet new people, have to face new challenges, and everyday I feel that I learn valuable skills for the workforce, be it something that will truly help me(such as how to write an income statement, or why the market behaves as it does), or just how to Bull-Shit my way out of a due date.

So what if the cost of college dosen't match up with inflation. Who cares? If you can afford it, the oppurtunity cost of not going definitly outweighs the 26,500 dollars a year you can make in upper level management at Burger King.

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