Monday, March 19, 2012

Why College Costs So Much, Part 2

cross-posted from Dagblog

In my previous post about college prices, I focused on the massive state spending cuts that have driven up tuition at public school universities and also made it easier to raise private tuition, because private universities no longer face serious price competition from the public sector. (See also tmmccarthy's excellent post on tuition and budget cuts.) In this post, I'd like to focus on the cost side of the question, and start with the private universities instead of the public ones.

The costs of providing a college education to students have actually risen, even as government support for public education has all but disappeared and the most important check on rising tuition prices vanished with it. No matter how exorbitant the annual tuition seems, the schools are not charging more than they're spending per student. In fact, in almost every case they are taking at least a small loss; even the students whose parents pay the full freight aren't paying enough to defray the full cost of educating those students. And the richer the school, the bigger the loss it takes on tuition.

The thing to remember is that private colleges and universities are non-profit institutions that live and grow primarily by charitable donations and by the investment income on those donations. As I've blogged elsewhere, this means that it's a mistake to think of universities' business model as selling classes to the students. They do have a business model (as even non-profit foundations do), but it's not about charging students for classes. It's about fund-raising. It's like the newspaper business, which isn't really in the business of selling papers but in business selling advertising in papers. College tuition, like the price of the daily paper, helps defray operating costs. Fund-raising, like a newspaper's ad revenue, brings in the money that helps the enterprise grow and thrive: the big donors who give a new building or an endowed professorship; the larger group of alumni who contribute regularly to the annual fund or the capital drive; the bequests that leave the school a piece of real estate, or money to establish a student prize, or a special scholarship for kids who come from the donor's home town. Fund-raising is where a college gets its economic capital. Many college administrators spend more than half their time raising funds.

When your economic life-blood comes from fund-raising, the two most important things are prestige and successful alumni. These two things are interrelated in complicated ways. Prestige is not an abstract concern, but part of the bottom line. The better the school's reputation, the more willing people will generally be to give money to it. The relationship is indirect; having a faculty member win the Nobel Prize doesn't translate into X amount of dollars in donations next week. But the relationship is also real, and over time the places that amass the most prestigious reputations also amass the fattest endowments. A few extremely famous places have so much prestige that they can even occasionally attract large donations from people who didn't actually go to the school.

But the most important source of donations has always been a college's own alumni. They are the people who do the annual giving. They are the group from which the large donors usually come.  They are the people who remember the school in their wills. When a school's former students thrive, as a group, so does the school. Prestige and alumni success tend to feed each other; successful and prominent alumni definitely increase a school's reputation, and the strength of a school's reputation helps it attract more of the talented students who are likely to become successful later.

I'm describing this as a business model, because it is, but that doesn't mean that the people involved in the system don't have altruistic motives. There aren't many business models more selfless than "Set promising young people on the road to success," especially when the only returns come from old students' voluntary gratitude. And the main way that universities seek prestige is advancing human knowledge, which is not a bad thing. But even when universities seem to be putting ideals ahead of the bottom line, they are following their long-term economic self-interest. Giving scholarships to bright poor kids turns out to be a good long-term investment, because a good percentage of them go on to be successful and a good percentage of the successful ones are grateful to the school.

(And it usually turns out that the people who execute the underlying economic strategy most effectively are people who aren't thinking about the economic aspect at all, but focusing on the university's official values. It's hard to find the faculty who will build a school's reputation without being genuinely interested in advancing scholarship. And picking students out of naked self-interest, looking for the future million-dollar donors, doesn't work nearly as well as evaluating a bunch of kids for things like "intellectual potential" and "leadership" and "character." You get the successful ones by choosing the "best." It's not a choice between believing in the values and playing the game;  believing in the values is one of the keys to the game.)

How do you get successful alumni? Do you try to attract the students most likely to succeed as adults? Do you put your money into educating the students you have, to maximize their potential and increase their chances of success? Obviously, you do both. You pick the most promising students that you can afford, you educate them as well as you can afford to do, you provide them with career development services on the way out the door, and you help them network with your other alumni. You do everything your school can afford, and look for ways that you can afford more. This is the school's long-term future.

Some critics of higher education complain that universities, unlike businesses, tend to spend every cent of their budgets. This is true; they do. They do this, first, because they are non-profits. Like all non-profits, they spend everything they can on their non-profit goals. But universities have perfectly sensible and compelling economic reasons to spend as much as they can possibly manage on the three things that maximize their long-term fund-raising: 1) attracting the students most likely to become successful later in life, 2) increasing those students' odds of success, and 3) strengthening the overall reputation of the university.

Since I picked on Harvard as one of my examples in my last post, I'll do the fair thing and pick on Harvard again. They can take it: they're the richest and most famous school in America because they play the academic prestige game as well as anyone. They spend enormous amounts on educating their hand-picked students, and on the apparent luxury of research and all that entails: rare books, new lab space, sabbaticals for faculty, hiring raids on other universities, you name it. But the more they spend on these things, the wealthier they grow. They're spending money on goals that may seem "pure" rather than practical, but the reputation they build in that unselfish enterprise is the key to building their endowment.

For the last fifty years or so, their financial resources have grown so great that they are can choose their students without worrying about those students' ability to pay. Not only does Harvard's endowment allow them to spend much more per student than any student pays in tuition, it allows them to admit students "need-blind," and take the kids they think most likely to become successful alumni rather than kids whose parents can afford full tuition. (And as the school gets richer, they seem to discount tuition more and more sharply.) They're not just looking for the few individuals who'll be filthy rich someday; it's the financial success of the the group as a whole that will end up reflected in annual giving. And it's not just financial success they're hoping for; they also want the students who will end up as high-profile successes in one field or another, and thereby add to the school's reputation. That list of incoming students, in a lot of ways, is Harvard's long-range investment portfolio, and they invest time and money into choosing and attracting the most promising.

But with Harvard's budget the pressure must be off, right? The richest school in America can't be a good example for discussing cost pressures, can it? You bet it can, and the pressure at Harvard is definitely not off. The more they spend, the richer they get, but the richer they get, the more pressure they feel to spend. It's pretty clear that Harvard feels intense competitive pressure from Yale, Princeton, Stanford, and whatever other schools currently makes their rivals list. If that sounds silly, think of the way it looks to Harvard's administrators. Do you want to be the admissions dean that tells the university president that you've started losing the best students to Yale? Do you want to be the university president who tells the trustees that you've fallen behind another school in fund-raising, or reputation, or number of applicants? If a college stops trying to compete with its peer institutions, it falls behind them, and once it falls behind it becomes harder to raise the funds it would need to catch back up. So the elite schools are constantly struggling to maintain their position, and that creates a constant, insistent pressure to spend more. The good news is that the spending doesn't get passed on to the students, because the competition between schools demands that they spend as much as they can on financial aid for the students they want.

But once you get out of that rarefied Ivy-League air, there's less financial-aid money to cushion the blow for students. And the competition for students and prestige remains intense, as does the competitive pressure to spend. A good, normal private university isn't trying to compete with Harvard and Yale, but it is almost certainly trying to raise its reputation a notch, and to attract a stronger student body. (Most university presidents are hired with the goal of taking the university, wherever it is in the food chain, "to the next level.") And the schools outside that top handful have more than a handful of rival schools to compete with. The more other schools there are at your level of reputation and funding, the more competitors you have, and all of those schools are trying to climb ahead of yours and to scoop up the best students left in the applicant pool after the rich and famous schools have taken their pick.

What makes this competition especially treacherous is that schools outside the top handful can't just ignore students' ability to pay the way Harvard or Yale can. They have some money for financial aid, and some scholarships for especially talented students without a lot of money, but they still need a solid majority of their students to pay a solid majority of the tuition price. Now you need to put together the best class of students you can afford to accept, which is not the same as the best class of students that applied to you. That already involves a bunch of compromises, and forces you to trade off some long-term value for short-term necessity. And it creates a powerful incentive to make your school more attractive to students, so that you can improve the quality of your student body. In the worst case scenario, if you start getting fewer (or weaker) applications, or if you start losing more of your accepted students to offers from other places, you can find yourself with an ugly problem. Do you leave those places in your first-year class unfilled, and take a major hit to your budget? Do you lower your standards and let in less-qualified students who can pay, setting back the reputation for quality that you've been trying to build? Do you let in bright students that you don't have any financial aid money for? None of the choices is good.

(At the very poorest end of the private-college spectrum, of course, are schools that never have to make these choices because they need all or nearly all of their students to pay full price. These schools, with only local or marginal reputations and very small endowments, can't afford serious admissions standards. They are not academically exclusive, but are socially and economically exclusive.)

But if you're a private university with a mid-major reputation, competing for the same pool of reasonably bright and reasonably affluent students that all of the other mid-major universities are going after, you need to spend money to make your school attractive to the students you want. That means spending on academic programming, and it means spending on the "student experience." You need your campus to seem to be an attractive place: athletic programs, renovated dorms, a new student center, you name it. This may not seem like part of the core academic mission, but you won't be able to fund the academic mission if you neglect it, and because so many schools are competing for the same students, spending on these kinds of amenities becomes part of a competitive arms race. You can't afford to spend less on these things (or on many more important things) than comparable schools do, or you will fall behind them and eventually be able to afford even less. In fact, you can't afford to spend less than you can afford. That's market pressure at work.

Schools with shallower pockets for financial aid have a smaller field of potential students to attract, and more competitors for those students. The shorter a school is of funds, the smaller the pool of attractive recruits gets, and the more important it becomes to allocate the money the school does have to attracting as many of those students as possible. That by itself would cause university spending to spiral upwards, but over the past thirty years the competitive pressure has been intensified by three factors:

1) Major state universities entering the market for out-of-state students. When public education began losing its public funding, one of the first moves state universities made was to try to attract more out-of-state students, who can be charged a higher tuition. (If this seems like it gets the state university mission backwards, I agree. But college administrators were forced into this strategy, bit by bit, as they tried to keep quality as high and in-state tuition as low as they could.) This meant the private schools with pretty good reputations suddenly had a whole new pool of competitors fighting over the same group of students: the out-of-state students that Michigan and Texas and Cal started looking for are in exactly the same pool that the private colleges are fighting over.

2) The rise of popular national rankings, especially the U.S. News and World Report rankings. In 1983, the U.S. News and World Report began publishing its annual college rankings, using a combination of statistics about each school and surveys that measured schools' reputations inside the academic world. These rankings are a long way from scientific, and most academic leaders will tell you that the rankings are inaccurate or even misleading. But that doesn't mean anyone can afford to ignore them, and nobody ever complains that they've been ranked too high. Schools take the rankings seriously because applicants and applicants' parents do.

It is not really possible to distinguish the 6th-best school in American from the 5th- or 7th-best, or the 42d-best from the 43rd-best. It's definitely not the case that a school is 6th best in the country one year, 9th best the next year, and 4th best the year after that, or that a school goes from 42d one year to 36th or 50th the next. That's just silly. It often is the case that a school ranked 8th is significantly different from one ranked 58th, and one ranked 58th is different from a school ranked 258th. What these rankings do is quantify and nationalize reputations that had previously been fuzzy and regional. (The fuzzier approach was more accurate; it's more helpful to think of schools in general groups or tiers than it is to think of numerical rankings.) Real reputations rise and decline slowly, but the ranking go up and down every year, and the pressure to keep a school's ranking high and push it higher is intense. And the things that raise your ranking cost money: better student/faculty ratios, bigger endowments, better reputations with the leaders of other schools. Meanwhile, the national rankings forced schools that once competed primarily within one region, where their reputation among potential applicants was especially strong, to compete in a nation-wide field of schools. This wider market is more expensive for everyone. A school like Vanderbilt, for example, loses some measure of his power to attract top students from the South (because more students in that pool are applying outside the South) and is forced to do more national recruiting. Meanwhile, private colleges outside the South suddenly have to compete with Vanderbilt, and a bunch of other formerly-regional powerhouses, in a way they've never had to before. More competition for everyone. More money spent just to keep from falling behind.

3) The admissions arms race. Since the 1980s, college admissions has been part of a vicious cycle in which college admissions rates get lower and lower, so that nearly every selective college is always statistically harder to get into than it was three years earlier, and students apply to many more colleges. When I was a high school student in the 1980s, things were already crazy in a new and unprecedented way. Back then kids like me were encouraged to apply to between 5 and 8 schools, and the most selective colleges' admissions rates had dipped under 20%. Today, students are encouraged to apply to 15 or 20 schools, and the most selective admissions rates are well under 10%.

How can nearly every school's acceptance rate keep getting lower and lower? Because the number of applications they get keeps getting higher and higher. Where do all these applications come from? From high school kids applying to two or three times as many schools. Why do kids apply to more schools? Because with acceptance rates dropping, you need to apply to more schools to maximize your chances of getting in somewhere you'd like to go. You see how the cycle works. There's no reason to believe it won't keep building on itself for the foreseeable future.

This, on paper, at least, is good for the colleges. They get a much larger applicant pool to select from, and the lower and lower acceptance rates help their national rankings, which helps future applicant pools. (But since everyone else's acceptance rates keep falling, yours has to keep falling just so your college doesn't drop in the rankings.) One could even argue that more participants in a wider application-seasons market makes the market more rational in some ways; a kid applying to twenty schools is more likely to get the best possible result than a kid who applies to three schools. And the colleges get a broader, more national pool of applicants to choose from.

But again, this only intensifies the competition for students. Sure, you get more applicants and you can pick more selectively, but you have so many applicants because they all applied to ten other schools. So you're competing against those ten schools for the most desirable students, and that competition ultimately demands more spending.

All of this competition for students and rankings drives costs up for private colleges and universities, but public universities get caught in the same upward cost spiral. Part of this is simply the normal market effect on prices: things get more expensive when some people are willing to pay a lot for them, and a big-spending 25% of the market makes things pricier for other 75%. If private colleges, for example, are willing to spend more to hire a leading neuroscientist away from a public campus, it becomes more expensive for the public schools to keep their neuroscientists. But more importantly, the public colleges are caught up in the private colleges' expensive bidding war for students, because the public universities now also depend on a sizable number of tuition-paying out-of-state students. Since their mission is certainly not the education of other states' unpromising  students, they're chasing the same pool of affluent and reasonably talented students that everyone else is, and have to spend the way everyone else does to land those kids.

What to take away from this long run-down? A few things:

The upward cost spiral is driven by market forces, and is therefore difficult to change. Sermonizing about how colleges ought to change their values, and that things ought to be different, is pointless. These decisions are being made by private institutions, and everyone involved is legitimately pursuing the best interests of the institutions they serve. Those institutional goals are tightly bound up with genuinely altruistic motives: the pursuit of excellence, the advancement of knowledge, the life of the mind. But even if they were not, telling college administrators not to compete won't do any good. The competition won't stop because one college, or a handful of colleges, stops competing. That would only mean that the college that stopped competing would lose. No one wants to risk their school's intellectual decline or its financial bankruptcy. The upward spiral is bad for everyone, but an individual school can easily get caught in a downward spiral, too: fewer students leading to budget cuts leading to a weaker reputation leading to fewer students and so on. It's very, very hard to stop that downward spiral once you get caught in it, and almost impossible to reverse it. A school that starts losing the competition for students ends up a much diminished place, or has to shut down entirely. If you've never heard of a college or university shutting its doors, believe me, everyone who runs a college or university has. And none of them are going to risk damaging their schools. They'd be crazy if they did.

Many of the typical solutions proposed to rein in spending focus on creating new efficiencies in some way or another (like through more instructional technology), or by cutting spending in some area that the proposer doesn't value (student-life amenities, research funding, fine arts departments, whatever). But while some specific cost-saving proposals are good ideas on their own, none of them are long-term solutions. Given the competitive market pressures, money saved in any one area is ultimately only freed to be spent somewhere else. Schools will still spend all the money they can in pursuit of the students and reputation they need in order to keep making money.

The competitive pressure will only diminish if something fundamental changes in the pool of students, such as a very large increase in the percentage of 18-year-olds with the mixture of ability and family income that schools are looking for, or in the buying power of the schools, such as a general increase in endowment funds that allowed many more schools to rely less on tuition for income. Neither change is around the corner.

The only intervention in the academic market that's been proven to work is the old-fashioned one that we've quietly given up on: publicly funded higher education. I'd like to have a hipper and snazzier TED-conference-style recommendation, but I don't. The model we've abandoned worked pretty well.
Private higher education, alone, is not sufficient to drive class mobility, and in many ways retards it.  The good news is that individual private universities (to go back to the Harvard example), admit more poor students than they did fifty years ago, and support them better. Harvard, taken in isolation, is much better at promoting social mobility through its admissions process than it was in 1962, and vastly better than it was in 1932. It takes many middle-class kids, and it takes more outright poor students than it used to. (It always had some bright, poor scholarship boys, but it can afford more now.) But that's only a lucky few. It's like Willy Wonka's golden ticket. It's not a broad-based response to questions of class and upward mobility, and it never could be. The school's too small. All the elite colleges together are too small.

And once you get out of Harvard's price range, the prospects for working-class students dry up fast. The other private colleges have some money for scholarships for talented poor kids, but not as many scholarships as Harvard has. And taken as a group, all of the private universities together are reinforcing inherited class privilege through their admissions process, because most of them need a lot of well-heeled students, or students whose parents qualify for loans, to stay in business. No matter how high-minded any particular school is, or how committed to opportunity for all, private institutions need to choose the students who are best for the school's long-term survival and prosperity. For a few poor kids, private college admissions is a way up in the world. But it's a lottery economy. For a very lucky handful who can get into Harvard or Yale, the system will be very generous. For another not-quite-as-lucky group gets the smaller pool of scholarships at schools with smaller endowments. But the majority of perfectly capable poor students are locked out of private college admissions; there's no money for them. The lucky handful will always be pointed out as examples to prove how well the system works, but that's like pointing to lottery winners to prove that the recession is over. A lot of talent and potential goes wasted.

But the private colleges were never designed to bear the whole weight of American class mobility. Hell, they were originally designed to prevent class mobility, and I'm grateful that they no longer do it as thoroughly as they did in the bad old days. That 25% of the higher-education system could never be the main engine of the American dream (academic version). The bulk of that job has always gone to the public universities, who do the job of educating three-quarters of America's college students, and whose mission is to make quality education affordable and accessible. They can't do that mission the way they used to, because the taxpayers no longer support it, and so even a public-college education has become much too expensive. College education, which was part of building America's great post-war middle class, has now turned into one more barrier to entering the middle class. But this is exactly the outcome we should have expected when we stopped paying for public universities. We should never have expected Harvard and Yale to pick up our slack.

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