Sharp essay! A few wrinkles about tier-one private colleges:
1) Re: "Charge a low price to the customer who is most likely to be driven away by a high price, and charge a high price to the customer who is more willing to pay a high price."
There remains a puzzle: Why do all of the selective private colleges post approximately the same tuition price, despite great differences among them in (a) selectivity (excess demand) and (b) endowment-per-student?
Note: Each of these differences may range up to an order of magnitude! Surprisingly, if I recall correctly, most of the tier-one national liberals arts colleges have approximately the same proportion of students of pay full tuition: roughly 40%.
In other words, why do Princeton, Harvard, Yale, and Stanford leave tuition money on the table? Their markets would bear a higher price for a substantial fraction of matriculants, yet they post the same tuition price as NYU and Boston U.
To put it another way: Why does competition among Princeton, Harvard, Yale, and Stanford for stellar students entail the same posted tuition price as competition among NYU, Boston U., and Georgetown U. does?
2) Re: "How does a college identify the suckers who are willing to pay full tuition, or something close to it? Get parents to disclose their finances. Get students to apply for 'early decision.' Find out which students are getting generous government loans."
Why don't colleges use a simpler, efficient indicator: Zip code of applicant?
Here is part of the answer: By requiring the subset of parents, who wish to be eligible for a tuition discount (price discrimination), to disclose their finances, the college can cloak price discrimination in the rhetoric of "ability to pay" (i.e., progressive pricing). Price discrimination sounds bad, whereas need-based financial aid (and also merit scholarships) sound good. ("Merit aid" is mostly calibrated as a tool of price discrimination.)
Note: The majority of "early decision" matriculants at tier-one private colleges are in 2 categories: (a) recruited athletes and (b) "underrepresented minorities". A disproportionate fraction of "financial aid" (tuition discounts, price discrimination) is allocated to athletes and URM students in the early-decision rounds. Colleges fear that they would risk shortfalls in these categories, which they consider politically strategic, were they to rely mainly on the regular April round of admissions to fill them.
3) re: "Although most colleges are 'non-profit,' they are among the most ruthless profit-maximizers out there."
At the risk of splitting hairs, I would say that colleges aren't profit maximizers because they have no 'residual claimant' of revenues. Instead, they seem, very roughly, to maximize some mix of current revenues, endowment growth, and prestige (academic, athletic, social, political) -- all subject to rent-seeking by insider stakeholders.
PS: Re: "Colleges also want to offer attractive scholarships to students whose parents are likely to give generously to the school. 'Legacies' get scholarships for that reason."
Are you sure that a substantial fraction of legacy matriculants receive major tuition discounts? My impression is that, at least at tier-one private colleges, legacy matriculants usually pay the full posted tuition. The controversy around legacy students is about the occasional practice of matriculating a legacy student in place of another student who has a better high-school academic record. There are two standard rationales for such 'legacy preferences' in admissions: (a) These students improve 'retention' (an important performance metric for colleges). They know what they are getting into, and so almost never transfer to another college after their freshman year. (b) Often, their families make substantial gifts to the college. Colleges predict/expect that the legacies will continue the philanthropic tradition -- and help endowment growth.
Financial aid is another "stealth progressive tax".
We talk about progressive tax rates, but there are millions of hidden ones, not all of which affect that lower middle class.
1) Obamacare subsidies go down dramatically as income increases.
2) My old company implemented a similar "progressive" tax system in terms of how much you had to contribute to your health plan.
3) Many of the new "school choice" voucher plans fade out as income increases.
4) Anyone below a certain income threshold gets free drugs under Part D.
5) Anyone that can sufficiently hide their assets or manage to spend it all down gets Medicaid. If not prepare to have nursing homes and end of life care take everything.
6) My town, which has ridiculous water bills, recently implemented a sort of progressive metering scheme that hits wealthier households more.
7) Financial aid for college.
I wonder what the true progressive tax rate is once you factor in all these things.
One of the underlying points of the piece is that people think price discrimination is going on - but it’s not. I excluded elites from the discussion because policy discussions are distorted by elite schools, which are simply different from the rest and educate a tiny proportion of students. Elites engage in price discrimination, but I didn’t get into that because everyone knows it’s going on at elites, and many people wrongly think it is going on elsewhere. It’s not.
A good maxim for this sort of thing is that you don’t get to have your economics until you’ve finished your accounting. My mom imposed a similar relationship between dessert and vegetables. The data is all available in the CDS disclosures and College Scorecard. Schools want to play Robin Hood on price but they can’t because they don’t have market power - ie they aren’t going to fill their entering classes. But they are able to optimize student quality and income by charging more for truly marginal students who bring money but not grades while charging less to students with higher grades. As mentioned in the piece, since grades and test scores are strongly positively correlated with family income, this means that typical schools end up giving bigger discounts to rich kids and charging more to poor kids. One doesn’t need to look far to find examples on both sides - affluent kids with huge discounts because the school wants to get a top student, and (as mentioned in the piece) a low-income family awash in PLUS loans because their kid got into an out-of-state flagship that’s offering zero discount so s/he can have the privilege of attending a middling school. That kind of price discrimination is as or more common than the Robin Hood kind that schools wish they could do, and many people think is going on. That kind of price discrimination absolutely happens at elite schools, but as mentioned in the piece, 95% of students don’t attend those schools.
Medical is even more insane about pricing. Without the insane list prices, people would only need insurance for very major events and that would be cheap. You buy insurance to get their "discount" from the list price for cash payers so you may as well not shop for services and over-utilize medical services that you have been forced to pay for up-front on your insurance rates.
Signalling would explain some of this. Universities want to signal quality by advertising their high fees, but for the reasons Arnold outlines they don't want to actually charge those fees to many people.
I was hoping for some hint of where Currell got his data on tuition paid but I see none. Bummer.
I really liked the topic, and still do, but the more I thought about it the weaker the claims within it got:
- Why does he think the anxiety is needless?
- While the pay-as-able model is far from perfect, what the hell is better?
- Why are students/parents who are able to pay suckers for paying "full price"? Are the ones who get scholarships but eventually give even bigger donations not suckers or even bigger suckers?
I'm surprised by Eubanks finding. Upperclassmen actually have immense leverage in the negotiation. Maybe it doesn't apply at public schools but private college HATE to have students leave. They are very protective of their graduation rate. Most schools quickly cave-in if you make it clear you have to leave for financial reasons.
"If you charge marginal cost, you will lose money." Isn't that definitionally untrue? You break even, right? If you lose money, you've miscalculated marginal cost. (You leave money on the table is what you mean?).
An addendum to my (already too long) previous comment about price discrimination at selective private, residential colleges:
Another major cause of price discrimination is the peculiar phenomenon, *the customer as input*.
The price of a new Tesla or Lexus isn't determined by the attributes of the driver. An extremely competent driver and a below-average driver will pay roughly the same price. And any expected interactions or complementarities, or the lack thereof, between two drivers who buy Teslas won't determine the prices of the two vehicles.
By contrast, admissions officers purport "to compose a Class" of new matriculants, subject to a financial constraint (revenue target). Price discrimination is, among other things, also a tool to achieve a target mix of different kinds of matriculants, given the college's fixed costs and "mission"; e.g., a sufficient number of STEM Majors, demographic "diversity," Title IX balance in athletics, sex ratio balance in the Class. In some dimensions, the point of heterogeneity is statistical. For example, selective colleges have racial diversity on paper, but few interracial friendships. In other dimensions, the point of heterogeneity is to achieve specific complementarities and interaction effects; for example, the sex ratio in the student body, the presence of enough probable STEM Majors for the fixed costs in laboratories, and the right number of talented quarterbacks, field hockey athletes, and so on.
Price discrimination tends to conform to the fact that a large fraction of matriculants (customers) are deemed particularly important inputs, often as specific complements to particular fixed costs, in the production of "the college experience," which is the product for sale, bundled with the expectation that the experience will yield a credential that is a passport to career.
The goal of "composing a Class" is complicated — and to some extent thwarted — by the fact that admission, except in the early-decision round at some colleges, hardly guarantees matriculation. Even at Harvard, Princeton, Yale, and Stanford, only a minority of students accept the offer of admission. Admissions officers furiously try to model "yield."
'higher education is an overwhelmingly fixed-cost business, and few colleges fill their incoming classes. As a result, market-clearing tuition for the marginal qualified student the day classes commence is, at least in theory, $1'
I am dubious of this claim. The school I attended screwed up my freshman year and admitted to many students for their housing to handle and they had to scramble and incurred large costs to accommodate the extras. Marginal accounting only works if costs are linear, but if students 900-1000 cost you practically nothing but students 1001+ cost you a great deal then you would be a fool to try to get very close to 1000 students unless you are charging those students a significant amount.
This is not the same as store inventory where you goods prices (and their storage/sale costs) are close to known and mostly stable- but even in these situations you can get massive cost overruns when storage space becomes limited (see negative oil prices 3 years ago).
Ideologically, the campus may be hostile to capitalism. But as businesses, colleges demonstrate capitalism at its most cutthroat.
I worked in at a University for twenty years. by the end of year 4 I was convinced that the above quote is the absolute truth.
Sharp essay! A few wrinkles about tier-one private colleges:
1) Re: "Charge a low price to the customer who is most likely to be driven away by a high price, and charge a high price to the customer who is more willing to pay a high price."
There remains a puzzle: Why do all of the selective private colleges post approximately the same tuition price, despite great differences among them in (a) selectivity (excess demand) and (b) endowment-per-student?
Note: Each of these differences may range up to an order of magnitude! Surprisingly, if I recall correctly, most of the tier-one national liberals arts colleges have approximately the same proportion of students of pay full tuition: roughly 40%.
In other words, why do Princeton, Harvard, Yale, and Stanford leave tuition money on the table? Their markets would bear a higher price for a substantial fraction of matriculants, yet they post the same tuition price as NYU and Boston U.
To put it another way: Why does competition among Princeton, Harvard, Yale, and Stanford for stellar students entail the same posted tuition price as competition among NYU, Boston U., and Georgetown U. does?
2) Re: "How does a college identify the suckers who are willing to pay full tuition, or something close to it? Get parents to disclose their finances. Get students to apply for 'early decision.' Find out which students are getting generous government loans."
Why don't colleges use a simpler, efficient indicator: Zip code of applicant?
Here is part of the answer: By requiring the subset of parents, who wish to be eligible for a tuition discount (price discrimination), to disclose their finances, the college can cloak price discrimination in the rhetoric of "ability to pay" (i.e., progressive pricing). Price discrimination sounds bad, whereas need-based financial aid (and also merit scholarships) sound good. ("Merit aid" is mostly calibrated as a tool of price discrimination.)
Note: The majority of "early decision" matriculants at tier-one private colleges are in 2 categories: (a) recruited athletes and (b) "underrepresented minorities". A disproportionate fraction of "financial aid" (tuition discounts, price discrimination) is allocated to athletes and URM students in the early-decision rounds. Colleges fear that they would risk shortfalls in these categories, which they consider politically strategic, were they to rely mainly on the regular April round of admissions to fill them.
3) re: "Although most colleges are 'non-profit,' they are among the most ruthless profit-maximizers out there."
At the risk of splitting hairs, I would say that colleges aren't profit maximizers because they have no 'residual claimant' of revenues. Instead, they seem, very roughly, to maximize some mix of current revenues, endowment growth, and prestige (academic, athletic, social, political) -- all subject to rent-seeking by insider stakeholders.
PS: Re: "Colleges also want to offer attractive scholarships to students whose parents are likely to give generously to the school. 'Legacies' get scholarships for that reason."
Are you sure that a substantial fraction of legacy matriculants receive major tuition discounts? My impression is that, at least at tier-one private colleges, legacy matriculants usually pay the full posted tuition. The controversy around legacy students is about the occasional practice of matriculating a legacy student in place of another student who has a better high-school academic record. There are two standard rationales for such 'legacy preferences' in admissions: (a) These students improve 'retention' (an important performance metric for colleges). They know what they are getting into, and so almost never transfer to another college after their freshman year. (b) Often, their families make substantial gifts to the college. Colleges predict/expect that the legacies will continue the philanthropic tradition -- and help endowment growth.
Financial aid is another "stealth progressive tax".
We talk about progressive tax rates, but there are millions of hidden ones, not all of which affect that lower middle class.
1) Obamacare subsidies go down dramatically as income increases.
2) My old company implemented a similar "progressive" tax system in terms of how much you had to contribute to your health plan.
3) Many of the new "school choice" voucher plans fade out as income increases.
4) Anyone below a certain income threshold gets free drugs under Part D.
5) Anyone that can sufficiently hide their assets or manage to spend it all down gets Medicaid. If not prepare to have nursing homes and end of life care take everything.
6) My town, which has ridiculous water bills, recently implemented a sort of progressive metering scheme that hits wealthier households more.
7) Financial aid for college.
I wonder what the true progressive tax rate is once you factor in all these things.
One of the underlying points of the piece is that people think price discrimination is going on - but it’s not. I excluded elites from the discussion because policy discussions are distorted by elite schools, which are simply different from the rest and educate a tiny proportion of students. Elites engage in price discrimination, but I didn’t get into that because everyone knows it’s going on at elites, and many people wrongly think it is going on elsewhere. It’s not.
A good maxim for this sort of thing is that you don’t get to have your economics until you’ve finished your accounting. My mom imposed a similar relationship between dessert and vegetables. The data is all available in the CDS disclosures and College Scorecard. Schools want to play Robin Hood on price but they can’t because they don’t have market power - ie they aren’t going to fill their entering classes. But they are able to optimize student quality and income by charging more for truly marginal students who bring money but not grades while charging less to students with higher grades. As mentioned in the piece, since grades and test scores are strongly positively correlated with family income, this means that typical schools end up giving bigger discounts to rich kids and charging more to poor kids. One doesn’t need to look far to find examples on both sides - affluent kids with huge discounts because the school wants to get a top student, and (as mentioned in the piece) a low-income family awash in PLUS loans because their kid got into an out-of-state flagship that’s offering zero discount so s/he can have the privilege of attending a middling school. That kind of price discrimination is as or more common than the Robin Hood kind that schools wish they could do, and many people think is going on. That kind of price discrimination absolutely happens at elite schools, but as mentioned in the piece, 95% of students don’t attend those schools.
dgc
A good analysis. It is a great racket.
Medical is even more insane about pricing. Without the insane list prices, people would only need insurance for very major events and that would be cheap. You buy insurance to get their "discount" from the list price for cash payers so you may as well not shop for services and over-utilize medical services that you have been forced to pay for up-front on your insurance rates.
Essays like this confirm the worth of my subscription. Thank you.
Signalling would explain some of this. Universities want to signal quality by advertising their high fees, but for the reasons Arnold outlines they don't want to actually charge those fees to many people.
I was hoping for some hint of where Currell got his data on tuition paid but I see none. Bummer.
I really liked the topic, and still do, but the more I thought about it the weaker the claims within it got:
- Why does he think the anxiety is needless?
- While the pay-as-able model is far from perfect, what the hell is better?
- Why are students/parents who are able to pay suckers for paying "full price"? Are the ones who get scholarships but eventually give even bigger donations not suckers or even bigger suckers?
I'm surprised by Eubanks finding. Upperclassmen actually have immense leverage in the negotiation. Maybe it doesn't apply at public schools but private college HATE to have students leave. They are very protective of their graduation rate. Most schools quickly cave-in if you make it clear you have to leave for financial reasons.
Non American here. How do they get parents to disclose their finances ? Just ask nicely ?
"If you charge marginal cost, you will lose money." Isn't that definitionally untrue? You break even, right? If you lose money, you've miscalculated marginal cost. (You leave money on the table is what you mean?).
Otherwise everything you are saying is spot on.
I haven't filled one out in 35 years, but I seem to remember that you had to give permission to access your tax filing status.
Also, foreign students, mostly from China and India, pay full price.
http://graphics.wsj.com/international-students/
An addendum to my (already too long) previous comment about price discrimination at selective private, residential colleges:
Another major cause of price discrimination is the peculiar phenomenon, *the customer as input*.
The price of a new Tesla or Lexus isn't determined by the attributes of the driver. An extremely competent driver and a below-average driver will pay roughly the same price. And any expected interactions or complementarities, or the lack thereof, between two drivers who buy Teslas won't determine the prices of the two vehicles.
By contrast, admissions officers purport "to compose a Class" of new matriculants, subject to a financial constraint (revenue target). Price discrimination is, among other things, also a tool to achieve a target mix of different kinds of matriculants, given the college's fixed costs and "mission"; e.g., a sufficient number of STEM Majors, demographic "diversity," Title IX balance in athletics, sex ratio balance in the Class. In some dimensions, the point of heterogeneity is statistical. For example, selective colleges have racial diversity on paper, but few interracial friendships. In other dimensions, the point of heterogeneity is to achieve specific complementarities and interaction effects; for example, the sex ratio in the student body, the presence of enough probable STEM Majors for the fixed costs in laboratories, and the right number of talented quarterbacks, field hockey athletes, and so on.
Price discrimination tends to conform to the fact that a large fraction of matriculants (customers) are deemed particularly important inputs, often as specific complements to particular fixed costs, in the production of "the college experience," which is the product for sale, bundled with the expectation that the experience will yield a credential that is a passport to career.
The goal of "composing a Class" is complicated — and to some extent thwarted — by the fact that admission, except in the early-decision round at some colleges, hardly guarantees matriculation. Even at Harvard, Princeton, Yale, and Stanford, only a minority of students accept the offer of admission. Admissions officers furiously try to model "yield."
The only thing I’d add is the label that colleges use to talk about their scholarships: they are “need-based.”
'higher education is an overwhelmingly fixed-cost business, and few colleges fill their incoming classes. As a result, market-clearing tuition for the marginal qualified student the day classes commence is, at least in theory, $1'
I am dubious of this claim. The school I attended screwed up my freshman year and admitted to many students for their housing to handle and they had to scramble and incurred large costs to accommodate the extras. Marginal accounting only works if costs are linear, but if students 900-1000 cost you practically nothing but students 1001+ cost you a great deal then you would be a fool to try to get very close to 1000 students unless you are charging those students a significant amount.
This is not the same as store inventory where you goods prices (and their storage/sale costs) are close to known and mostly stable- but even in these situations you can get massive cost overruns when storage space becomes limited (see negative oil prices 3 years ago).