Suppose that parents want their college-graduate son or daughter who has found a good job to be able to afford a house that would otherwise be too costly. So they give him or her $25,000 to be used toward the down payment. There is no doubt that they have made home ownership more affordable.
That is the idea behind federal financial aid programs for students, which give (or lend at attractive terms) money that offsets some of the cost of going to college. Obviously those programs work. If students have more money, their college education won’t cost them (and their families) as much.
But like many government programs, financial aid for college has unintended consequences that may partially or completely negate their intended consequences. In a recent paper, “How College Pricing Undermines Financial Aid” economists Robert Martin and Andrew Gillen make a strong case that instead of working to help students afford college, the government’s financial aid programs actually work for the schools.
That is because college officials, armed with abundant financial data on future students, can set their prices (tuition plus other fees and charges) to capture the government’s “generosity” toward students and use the money to expand their budgets. Instead of making college more affordable for young people, the taxpayers are actually making life nicer for college faculty and administrators. While a lot of Americans would look favorably on the former, far fewer probably think the latter is a good use of tax dollars.
Martin and Gillen acknowledge that their thesis is neither new nor uncontroversial. Former Secretary of Education William Bennett advanced the argument that student aid is captured by schools in 1987. And others have contended that higher education costs keep going up for reasons beyond the control of colleges and universities; schools spend more because they have to if they want to compete for capable faculty members, not because they’re filling their coffers with federal money.
The latter argument, known as the “external cost” argument is dear to the hearts of the higher education establishment, but the authors show that it is unconvincing. Their reasons are three: higher education costs have increased much more than the general rate of prices in the economy; faculty wage costs have gone up markedly, but that’s due to declining productivity; and tuition costs have continued to rise even though tuition is already high enough to cover the cost of teaching a student.
Over the past two decades, student financial aid, after adjusting for inflation, has steadily increased. That fact leads Martin and Gillen to argue that if colleges were not capturing the aid to fatten their budgets, we would have seen a net reduction in the cost of attendance—but that clearly did not happen. Across the range of institutions (public 4-year, public doctoral, private 4-year and private doctoral), the net price of attendance increased from 1987 to 2008.
So, returning to my opening idea about housing, while a single family can certainly make a house more affordable by giving money to a child, if the government gives money to most people who want a house, that won’t make housing cheaper for everyone. The same is true about subsidizing higher education.
The authors introduce an intriguing thought experiment: what if college officials had set affordability as a main goal and decided to follow a “capped net proceeds policy.” That is to say, what if they had tied their pricing to changes in median family income, putting a constraint on their ability to pass costs along to students?
Crunching the numbers under that hypothetical, the authors show that college affordability would have improved across the range of institutions from 1987 to 2008. At public 4-year schools, the cost of attending as a percentage of household income would have fallen from 15 percent to 13 percent. Cost declines at other kinds of schools would have been in that same range. In other words, if college officials had wanted to hold down costs, financial aid actually would have made college more affordable.
But that’s not what happened at all.
The actual net cost as a percentage of median household income rose in each category of school, ranging from a 30 percent increase at private 4-year schools to increases of 44 percent at public and private doctoral universities.
Conclusion: colleges and universities are indeed capturing the government’s financial aid, and quite a bit more as well. As the nation’s wealth has increased over the last few decades, it is clear that college officials have figured out how to divert a large amount of that wealth into their budgets and endowments. (As Professor Vance Fried showed in his Pope Center article, endowment earnings are not used to help keep schools affordable.) Like any business, colleges evidently charge what the market will bear.
Although Martin and Gillen don’t specifically mention “public choice” theory, their findings dovetail perfectly with its tenets. Public Choice is built around the assumption that government officials will use their positions not to advance the general welfare, but largely to advance their own welfare. People don’t, in other words, become altruists just because they have been elected or appointed to some governmental position; they will continue pursuing their individual interests through political power.
What about college leaders? Most of our institutions are non-profit and have lovely mission statements about advancing knowledge and educating future generations, so people tend to think that those who direct them are overwhelmingly concerned with those lofty aims. If that were true, you’d expect to see our higher education leaders focusing like a laser on two objectives: keeping college affordable and maintaining high academic standards.
The Martin/Gillen study casts a great deal of doubt on the first of those. Instead of trying to keep higher education affordable, most college leaders have tried to maximize revenues, spending them on a host of things that make their own lives easier, such as steadily declining teaching obligations for professors, expanding administrative staffs, and a host of perquisites and amenities. Work on the second has shown that college leaders have largely been content to allow academic standards to fall, for example Professor Jackson Toby’s book The Lowering of Higher Education, which I reviewed here.
The implications of this study are clear. We should phase out federal student aid programs. They do not make higher education more affordable, but fuel an academic “arms race” where spending is mostly for jockeying in the college ratings beauty pageant. And federal loans induce students to myopically borrow for college degrees that are apt to do them no good, a phenomenon one student wrote about for the Pope Center.
Government subsidies always have unintended consequences, usually overwhelming whatever benefits they were supposed to produce. Robert Martin and Andrew Gillen have performed a public service in showing that that rule holds true when it comes to higher education.