Why College Costs Are Rising

by John Hood

Government help is rarely helpful. And in the case of American higher education, as administrators and faculty help themselves to billions of dollars in subsidies, government has boosted prices and encouraged waste beyond reason.

College costs are skyrocketing. Though a majority of young people are continuing to seek higher education, either because they hope it will pay off in the long run or because it is expected of them, the burden being placed on families is tremendous. Parents are finding their life savings dwindling under the strain. Young men and women are going further into debt than ever before, hoping that future earnings will make repayment relatively painless. All are wondering if the education students are receiving is worth the investment. And through it all, more and more taxpayers' dollars are being routed through state and Federal programs to fund grants and guaranteed loans.

Since 1980 the cost of going to college has risen twice as fast as the cost-of-living, climbing 57 per cent between 1981 and 1986. The Consumer Price Index went up 26 per cent during the same period. On average, a four-year college education now costs more than $25,000 -- while at some elite schools like Harvard and Stanford, the bill comes to as much as $70,000. This explosion of college costs has even outpaced the much-decried increase of medical care costs, up 47 per cent between 1981 and 1986. During the same period, the cost of all commodities went up 12 per cent, while the average cost of all services rose 31 per cent. In short, the cause of burgeoning college expenses lies not in the general economy, but in higher education itself.

The burden on families has become critical. From 1981 to 1986, college costs rose 80 per cent faster than median family income. Expressed another way, the portion of the median family income needed to pay tuition and expenses at a public college or university went from 11.3 per cent to 13.1 per cent over that period. For families sending a student to a private institution, costs went from 31.2 per cent to 40.1 per cent. Has the real value of a college degree increased so much since the beginning of the decade, or are parents simply paying too much for their children's education?

All the available evidence points to the latter conclusion. "I think students are getting ripped off," says Robert V. Iosue, president of York College of Pennsylvania. He points out that American colleges and universities have raised prices even more than the gross numbers show by providing less education per dollar -- trimming the school year, requiring and offering fewer classes, arbitrarily declaring three-credit classes to be four-credit classes, cutting the length of classroom periods, and spending less money on libraries and other educational programs. "It is a concerted effort on the part of faculty to say, 'Hey, we are working too hard; let's pull back a bit,'" Iosue says.

Indeed, tuition increases have not improved higher education in any measurable way. Academic standards have remained constant or have even fallen during the 1980s. This should be no surprise, since the extra funds raised through price hikes are going mostly to administration, not instruction. According to the Higher Education General Information Survey, the portion of total funds spent on instruction at American colleges and universities declined over 4 per cent between 1974-75 and 1984-85, while the administrative portion increased by almost 13 per cent during the same period. Another portion of the academic pie getting an increase during the period was "student services" -- a dubious category including not only institutional financial aid but everything from "safe sex" kits to college-run counseling services.

"Our policy is total Robin Hood," says Eamon M. Kelly, president of Tulane University. "We put our tuition up as high as possible and then put most of the extra money into financial aid." Michael O'Keefe, president of the Consortium for the Advancement of Private Higher Education, puts it this way: "At some colleges, institutional student aid now exceeds total expenditures for the educational program. It makes one wonder what business these colleges are in, higher education or income transfer." Exempting student services and administrative costs, the share of expenditures for almost everything else -- research, libraries, instruction, operation, and maintenance -- has gone down between 1975 and 1985.

To regular observers of government at work, this scenario is far from unique. In so many areas, ranging from telecommunications to agriculture to electric power, government "help" in the form of subsidies has allowed firms to raise prices above the market price, encouraged waste and inefficient "cross-subsidies" (overcharging one customer to subsidize another), and created an ever-increasing "need" for government expenditures. The higher education market operates in the same manner.

Though President Reagan's foes continue to deny and obscure it, the Reagan administration has been a very generous subsidizer of higher education. Federal student aid appropriations increased from $5.1 billion to $9.0 billion between 1981 and 1986, a 77 per cent increase, while the Consumer Price Index rose 26 per cent. Total available student aid (including loan programs that leverage private funds with Federal dollars) shot up over 60 per cent during the same period, or more than twice the rate of inflation. Not to be outdone, state governments also have allowed the bucks to flow: state subsidies went from $20.9 billion to $30.7 billion between 1981 and 1986, an increase after inflation of about 20 per cent.

More important, the focus of financial aid shifted during the 1970s from merit-based (including entitlements like the GI Bill and Social Security that are not means-tested) to needsbased (like Federal Pell grants and guaranteed loan programs). By the beginning of this decade, the student aid regime had become largely predicated on need, linking the availability of Federal subsidies to students' ability to pay. Colleges, naturally, took the bait -- and made school more expensive to attend, thus boosting their Federal dole. This, in turn, fueled the political pressure on government to increase its needs-based student aid. A vicious circle began. By the 1985-86 school year, needs-based aid accounted for 95 per cent of all Federal student aid. Only a decade before, such aid accounted for a miniscule portion of Federal aid budgets.

One way to get a better grasp of this process is to consider the difference between an economic market and a political market. In an economic market, the potential to make a profit puts a premium on efficiency. In a political market, in which there is no profit incentive, a premium is placed on sheer expenditure -- and, to a certain extent, on inefficiency, since evidence that a particular political program is failing is usually grounds not for ending it, as a business might do, but for increasing its funding (to "solve" the problem). These general principles have been discussed at length elsewhere, but their application to higher education is illuminating. Economist Howard Bowen wrote in his 1980 book, The Costs of Higher Education, that colleges and universities exhibit the following market behavior: 1) each institution raises all the money it can; 2) each institution spends all it raises; 3) the cumulative effect is toward ever-increasing expenditures.

Even Governor Mario Cuomo of New York seems exasperated at the tenacious bureaucratic waste of college administrations. At a budget presentation earlier this year, Cuomo blasted the State University of New York for failing to suggest budget savings. "They couldn't identify a single budget-cutting measure -- not one penny's worth," he said at the presentation. "I found it really inexplicable....The whole mentality was: 'You get whatever you can for your agency.'"

Waste is rampant in other states as well. Northern Illinois University recently opened a new engineering school, at an estimated cost of $65 million to $85 million over the first 10 years, even though there were 1,700 empty places in three other engineering programs within a 65-mile radius. In the "student services" area, California Polytechnic State Institute offers a program to help freshmen overcome shyness, while Pennsylvania State University gives out Roommate Starter Kits to ease the dreaded campus trauma. Even Harvard University, which offers some of the most prestigious graduate programs in the world, managed to spend $100,000 building a guardhouse that a Boston hotel later duplicated for $5,000.

One factor behind these costly mistakes and extravagances is the virtual absence of price competition, especially among private schools. "The goal of pricing is to get into a pack," says Christopher Small, vice-president of the University of Tulsa. "You want to be part of a group, not an aberration." Though this phenomenon has long been expected in the Ivy League, where attendance has become a luxury good for the very rich or academically gifted, pack pricing -- or pricing high to boost prestige -- can be found in other areas. At a Washington higher education seminar earlier this year, an administrator at one Michigan college joked that he was considering writing an "honest" tuition-increase letter to parents, saying that the school is maintaining high tuition for prestige rather than, as asserted in previous years, to offset rising operational costs.

In fact, there is an added irony in the higher education market: since colleges seem to be getting away with steep tuition hikes without losing a significant number of students, they have come to rely on such hikes to fuel their expenditure binges, while keeping the proceeds of other fund-raising activities -- like charitable donations and investments -- "in reserve." Even as college administrators justified price increases on the grounds that more money was needed to meet operating expenses and to fund student scholarships, charitable contributions to higher education rose from $4.2 billion in 1981 to $6.3 billion in 1985, a 22 per cent increase when adjusted for inflation. Between 1981 and 1986, endowments of higher education institutions grew from $20.9 billion to an estimated $42 billion, a 60 per cent increase after inflation. The money was there, but the cushion provided by government subsidies allowed administrators the luxury of raising prices instead.

Why is it that colleges have been able to boost their prices without losing many students? According to the laws of economics, it would seem that charging more than the optimum market price would cause supply to exceed demand. Yet total enrollment has fallen only once during this decade (in 1984) despite the fact that the college-age population has shown a marked decline. Higher percentages of 18- to 24-year olds went to college in 1985 than in 1980. According to a recent Bureau of Labor Statistics study, 58 per cent of the high school class of 1985 went on to college in the fall, compared to 49 per cent in 1980.

This continued high demand, in the face of rising prices, can be attributed to many factors. Polls show that a large majority of Americans think a college education is more important today than it was in the past. Therefore, it appears (for now) that families are willing to pay exorbitant amounts of money, perceiving that the investment is worth it. To be sure, it is obvious that one factor elevating college education to this revered "necessity" status is the availability of government subsidies, especially guaranteed loan programs that delay the real costs of education until later. The phenomenal number of defaults on such loans demonstrates their economic inefficiency, as well as their growing strain on government budgets. According to Education Secretary William Bennett, defaults last year cost taxpayers $1.1 billion, up from $254 million in 1980 and $117 million in 1975.

The high cost of government loan defaults spotlights the most important factor in maintaining the inordinate demand for higher education: consumers of the product are not the same as the purchasers of the product. Taxpayers, who may or may not have college-aged children, foot a large part of the education bill. Uwe Reinhardt, professor of economics at Princeton University, asks: "Where is the justice in taxing a young auto mechanic to provide a heavily subsidized education for a friend who will earn three times as much money when he gets out?" Newsweek (May 18, 1987) points out: "To some critics that amounts to a policy of robbing the poor to pay the soon-to-be rich." Once again, a government program to redistribute wealth and opportunity has become a burden on the very people it was supposed to help -- the poorer members of society. In this case, government has taken on the rather bizarre role of taxing one group to help another group become educated, who can then turn around and compete with the first group -- usually successfully -- for jobs and economic opportunities.

One effect of this artificially sustained demand for college degrees is that it provides administrators with the resources to engage in inefficient cross-subsidies. A crosssubsidy is simply the "overcharging" of one customer to subsidize the "undercharging" of another. It is a common practice, but government intervention frequently distorts its use beyond efficient limits. For example, in the currently "deregulated" telecommunications industry, the federal government requires local phone subscribers to pay an extra monthly fee to their Bell company, which then is used to help the Bells compete for lucrative business telecommunications contracts. In much the same way, government subsidization of general student demand allows colleges the luxury of keeping graduate student tuitions at or near the price of an undergraduate education -- even though graduate students cost a lot more to educate than undergraduates. Scholarship programs also are the beneficiaries of cross-subsidization, as high tuitions for all students fund scholarships for a few of the most academically gifted students. Both types of crosssubsidies help schools in the competitive segment of the education marketplace -- attracting academic "stars," athletes, and promising doctoral candidates -- by overcharging students in the uncompetitive, government-protected market for general undergraduates.

Naturally, advocates of government funding for higher education claim that other factors besides Federal and state involvement are responsible for rising prices. The most common argument is that since higher education is so labor-intensive, prices will tend to rise more readily than in private business, because technology and other means of reducing costs are not applicable. To some extent, this is true. But costs in other labor-intensive industries have failed to keep up with the rise in higher education costs. And methods for increasing efficiency in higher education have been successfully tested at many schools. Charles S. MacKenzie, president of Grove City College in Pennsylvania, suggests that colleges "take a look at things like whether low student-faculty ratios really improve teaching, and the extent to which the tenure process prohibits needed flexibility."

Furthermore, the major increase in labor costs during the 1980s has been for administrative positions, not teachers. A survey by the College and University Personnel Association found that, although faculty salaries rose 5.9 per cent from 1986 to 1987, the salaries for presidents, chancellors, and other top posts went up 7.3 per cent during the same period, while alumni affairs directors' salaries climbed 10.3 per cent.

Although some officials have correctly diagnosed that government aid programs are to blame for the college cost crisis -- William Bennett's Education Department being a notable example -- in many cases they have advocated simply replacing "bad" programs with "good" ones. Seizing upon the popularity of individual retirement accounts, some states have come up with plans to set up government pools of funds deposited by parents for their children's education. These "education trusts," run by bureaucrats, supposedly would offer parents a painless, secure way of stockpiling potential tuition payments. But as Peter J. Ferrara recently pointed out in a Heritage Foundation report, education trust plans could exert even more upward pressure on college costs, because substantial new funds would be accumulated which parents would have to spend on higher education within a specified time period -- or else suffer heavy taxation or even loss of their funds altogether. Funds committed to education in this manner will isolate colleges still further from market forces.

Another proposed solution to the crisis, an "income contingent loan," is now being tested by the Education Department in a five-year pilot program. This program, among other things, would spread the burden of repaying loans over a longer period of time, during which a college graduate's income could be expected to increase. In theory, the pilot program is admirable because it will reduce the interest rate subsidy to students, and may be fairer to taxpayers without a college education, says Robert Staaf, an economics professor at Clemson University. But he adds that the idea simply doesn't get at the root of the problem -- government subsidies. A better approach would be to cut loan subsidies, thereby providing students with the incentive to reevaluate their return on higher education while pressuring colleges to reduce costs. But, Staaf concludes, "this effect is likely to come about only if the government gets out of the loan business."