The Supersizing of American Colleges

September 11, 2013 | Permalink

Annual Student Loans vs. Tuition

Each dot represents a college or university - hover over dots to see the school name. Mouseover the year to go backward and forward in time. Debt is per student who borrows money.

The Supersizing of American Colleges

Over the past three decades, American colleges and universities have been supersized. There are more students paying more money (financed by more financial aid and debt) to attend college. They are spending the best four years of their life at colleges that - for the most part - have expanding budgets that fund more and more programs and facilities.

Thanks to the disclosures colleges and universities agree to when they accept student aid money from the Federal government, we can visually show the story of how higher education attracted more and more money.

The above figure, which depicts the growth in tuition prices and student loans from 2001 to 2011, comes from Department of Education data. We see colleges moving up and to the right toward higher tuitions and more student debt. The x-axis represents debt per student who borrowed money. The greater size of the public schools, represented by light blue dots, indicates that most students enroll in public institutions.

The same data is available in aggregate from College Board back to 1972 and reveals how tuition prices and federal financing took off in the mid eighties to early nineties. These figures are all adjusted for inflation.

Private schools raised tuition most dramatically. But on a percentage basis, public schools’ increased costs are a big deal, especially as they educate the majority of America’s low and middle income students. Over the last fifteen years, for example, the $949 average bump in community college annual tuition amounts to a 44% increase - just over the average increase of 41% for private institutions.

These figures and statistics also understate the increased cost of public higher education by using in-state tuition prices. State schools increasingly recruit out-of-state students who pay higher tuition. The University of California Berkeley, for example, cost several hundred dollars in fees in 1972. In 2012, UC Berkeley charged Californian students $12,874 in tuition and fees and out of state students - who made up 30% of the freshman class - $35,752.

College has gotten more expensive faster than just about anything. Imagine if tuitions and fees had only increased at the rate of inflation since 1987 (the earliest year for which we have official data by school). Today’s smartphone toting Millennials would pay $25,268 to attend Yale instead of $42,300, $5,815 to attend the University of Michigan instead of $13,819 (for in-state students), and $24,741 to attend Amherst College instead of $44,610.

Over the past 20 years, increases in the cost of college has outpaced not only inflation but also housing, energy, and healthcare prices.

Despite skyrocketing tuitions, many college administrators and policy wonks can still look you in the eye and say that college is not crazy expensive. Colleges offer enough grants that only a minority of wealthy families pay the sticker price. When we subtract the average amount of financial aid received in the form of grants to get the average net price paid by students, then costs look more reasonable. Data from a National Center for Education Statistics quadrennial survey shows net price increased 20% at 4 year public schools and 27% at 4 year private schools between 1995 and 2007. But that’s modest compared to the increase in tuition prices of 56% and 39% at 4 year public and private institutions respectively during the same period.

This does not mean that we should give America’s higher education system a passing grade. The cost of college is increasing, even if alumni donors and the Federal government pick up a share of the tab. Moreover, these cost increases are a growing burden for graduates, as seen in this data from the Federal Reserve Bank of New York that uses a survey of current students and graduates (and dropouts).

While it would be comforting to simply blame the explosion of debt and delinquency on the recession, the upward trends began before the economy imploded.

Rising costs combined with increased enrollments - due to a demographic bump and people going to school to ride out the recession - has led total student debt to rise to around $1 trillion, with $150 billion owed to private lenders and the rest owed to the Federal government. The New York Fed estimates that debt nearly tripled from $363 billion in early 2005 to $966 billion at the end of 2012.

The Stories Behind Rising Costs

The story of rising costs in America’s higher education system is complex. Revenue and spending is very different at research universities than at liberal arts colleges, which are very different from community colleges. The researchers who study college costs disagree and the most certain voices are those writing op-Eds without rigorously citing data.

That said, much of the problem can be traced to one simple problem: Colleges have no reason not to spend more.

Among the decisions that this author would gladly entrust to his 17 year old self, taking on thousands of dollars in debt to make a two or four year investment that will have a decisive impact for decades is not one of them. Between adolescents’ aspirations to attend their dream college, recruiters encouragement not to let finances limit their options, and their parents’ fond memories of an alma mater, many students do not think in financial terms as they apply to college.

Every September, US News & World Report releases two annual rankings of colleges and universities - one of Best Colleges and Universities and another of Best Value Schools. The first sets off a frenzy of press activity and parent speculation; the second is largely ignored.

Despite the several "bang for your buck" college rankings produced every year, few people shop for "bargains" in higher education. An expensive price tag indicates prestige. That leaves one clear strategy for a school seeking higher standing: fundraise, increase tuition, and spend, spend, spend.

Each year, schools compete for a limited pool of talented students who - especially at the most selective schools - are fairly insensitive to price. What’s another $2,000 a year for your future and the best four years of your life? This leads to a spending race to woo students with big name faculty and fancy buildings. Since all that matters is a university’s prestige relative to its peers, everyone needs to constantly raise funds and spend to outpace other schools.

Take the US News ranking. The rankings rely primarily on prestige (22.5% of the ranking is reputation as voted by college administrators) and wealth (35% of the ranking is faculty resources, financial resources, and alumni giving rate). Even metrics like student selectivity spur spending as colleges can increase their recruiting budget to gain more applications and boost their selectivity and college ranking.

Ivy League schools may enjoy enough rich, price insensitive applicants to support their indefinite spending race. But what of the nation’s many public colleges and universities that primarily educate middle class students?

That is where government subsidies come in. Known as the Bennett hypothesis after President Reagan’s Secretary of Education William Bennett, who prominently proposed it in a New York Times article entitled "Our Greedy Colleges," it suggests that Federal Pell Grants and subsidized student loans are not just helping students afford tuition increases, but actually fueling them as well.

Higher education is a public good that the government wants to encourage. But making college more affordable and accessible for students allows institutions to raise prices and spend more in the race for prestige, secure in the knowledge that subsidies keep students paying the higher prices. This doesn’t require college administrators to be greedy - although plenty of critics accuse them of driving up budgets to justify their own pay raises. Any college that keeps costs constant will slip in the rankings as their peers build nicer athletic facilities and dormitories. Eventually they’ll need to spend to keep up. Even community colleges have been affected as increasing portions of their budgets went toward "auxiliary" costs like dormitories and meal services.

The default over the past decades for college administrators has been spending more to get more, not doing more with less. Last year, the president of Ohio State University (formerly president of Vanderbilt and Brown) told the New York Times, "I didn’t think a lot about costs. I do not think we have given significant thought to the impact of college costs on families."

This intuitive story - of colleges in a spending race with each other to garner prestige and attract the best students, with government subsidies fueling the race and allowing all schools to participate - is not the only factor or theory for why costs have increased.

Demographics, the rising wage gap between workers with and without a degree, and the recession have all increased demand for college. Since universities prefer to keep class size constant to maintain selectivity, and colleges take a long time to build both their campuses and reputations, supply takes time to rise up to meet demand.

The rising cost of health care also pushes up prices. And for state schools, the health of their state’s budget determines their funding, which has been a very important factor since the recession began.

There is one more grand theory of increasing tuitions - the Baumol effect. Named for one of the economists that proposed it in the 1960s, it describes how rising salaries in parts of the economy with increasing productivity can force up the salaries of workers in other fields.

In higher education, this works as follows. Professors’ work has been fairly consistent for decades: they teach the same amount of Plato, macroeconomics, and computer science to the same number of students in the same amount of time as their predecessors. Outside of academia, however, technology has made professors’ peers much more productive. Programmers can work much more effectively than their counterparts in the seventies and economists can consult at higher rates.

Since the wage gap has grown between skilled and unskilled labor, even humanities faculty would go elsewhere if not compensated at the growing rate of their education bracket. So, universities need to raise professor salaries to keep them from bolting to the private sector. With professors performing the same work for higher salaries, the cost of college increases.

We won't recount all the evidence for and against each theory here. In our review, we found the explanation of a government subsidy fuelled spending race most persuasive, with the other drivers playing a supporting role and budget cuts being especially important over the past 5 years for public schools with limited resources.

To review the evidence (such as the increasing salaries of administrators compared to faculty and the shift of spending from instruction toward new programs and auxiliary costs), readers should reference Dylan Matthews’s excellent primer on college tuition increases for the Washington Post. Particularly wonkish readers should check out the Delta Cost Project’s analysis of college spending data over the past decade.

The top study to read is the Bennett 2.0 Hypothesis, which proposes that disagreement over whether government subsidies increase costs can be resolved by noting how different types of support fuel college spending differently. Aid given only to students with low incomes (like Pell Grants) is less perverse, while universal subsidies (like education tax credits) that help students who could already afford college are more easily captured by colleges as increased tuition. This suggests a way to improve government education subsidies through more careful targetting.

The aforementioned report from the Delta Cost Project, released five years ago, spoke of a consensus that 2008 marked a high point in college spending and the commencement of a "new normal" in which higher education had irrevocably lost at least 10% of its revenue base.

The Project’s reports since then bely that consensus. Summarizing their findings, Matthews breaks colleges into three categories. All three are seeing rising tuition, but only one reduced spending.

Public and private research universities had increased revenue from services like hospitals as well as from the Federal government, yet raised tuition to further increase costs. Other private institutions (such as liberal arts schools) have less revenue from their endowments and alumni gifts. They are charging higher tuition to both make up for that revenue and fund additional spending. To make up for less state funding, however, non-research public institutions are both raising tuition and spending less.

Public universities of lesser means, especially community colleges, are slashing their budgets. Otherwise, however, America’s colleges are nearly as immune to cost concerns as ever. Federal financing continues to flow, alumni gifts and endowments are bringing in more revenue thanks to the recovery of the 1% economy, and parents and students are proving that they still consider education an investment worth a higher and higher cost. Many of the ideas described above, like the tuition and spending increases they seek to explain, have been debated for decades. They may be with us for years to come.

Is College Still a Bargain?

The supersizing of American higher education has led to a flurry of articles, reports, and sound bites about college that use the most feared words in America: “crisis” and “bubble.” Citing the increase in spending, debt, and default, their authors argue that college is a bum deal, profile students graduating to waiter jobs that offer no hope of paying off loans, and predict the bursting of the college debt bubble once we realize college is not as valuable as we thought. The Economist compared American universities to Detroit’s car companies in the 1950s: universally admired as the best in the world and on the cusp of a fall. In mid August of this year, President Obama announced the blueprint of a plan to make college affordable and accessible once again.

Despite all the dire news, however, all the wonks agree: College is without a doubt a worthwhile investment that pays off over time in increased earnings and a better quality of life. If anything, a college degree may be getting even more valuable.

Is college worth it? The answer is more complicated than choosing the right bubble on the SAT. We’ll examine the question in a follow up post next week and explain why for American Universities, a 'D' is Still a Passing Grade.

This post was written by Alex Mayyasi. Follow him on Twitter here. Data visualizations by Rohan Dixit. To get occasional notifications when we write blog posts, sign up for our email list.

Our second article on American colleges and universities has been published. You can read it here.

Priceonomics investigated this topic at the suggestion of our friend Alexis Ohanian. Alexis is taking his message of internet entrepreneurism on a Y-Combinator backed book tour to 100 colleges this fall. You can check out his book Without Their Permission here.