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Why college keeps getting more expensive

Because it can.

By Karen Datko Oct 29, 2009 3:41PM

This guest post comes from Frank Curmudgeon at Bad Money Advice.

 

The College Board (the SAT people) recently released its annual survey of college tuition (.pdf file) and found what it always finds. College got more expensive last year. This time ’round public colleges went up 6.5% and private ones 4.4%, both of which are pretty steep increases when compared with the 2.1% decline in the CPI over the same period.

This was a particularly bad year for the tuition vs. inflation comparison, but the overall trend is striking. According to the College Board, over the past 30 years the average tuition cost has tripled in real inflation-adjusted terms. It’s hard to think of anything else we buy that has gone up as much. It would be like paying $12 a gallon at the pump.

 

Does it now cost so much more to "produce" a college education than it did a few decades ago? Not likely. In fact, although virtually all colleges are stridently not-for-profit, it is pretty clear that the profit margins on a college education are big and getting bigger. I have a hard time believing that the cost of heating the dorm rooms, proctoring exams, and so on has grown much faster than inflation. If college were a business, we would say that the price increases have gone straight to the bottom line.

 

Generally, the brakes on any supplier raising prices are: a) competitors may charge less to take your business away; b) buyers may decide that they’d prefer to buy something else with the money; and/or c) buyers just may not have the money even if they still want to buy what you are selling.

 

Colleges and universities are remarkably unconstrained by any of these.

 

That a rival college will lower prices (or fail to raise them) in order to steal customers is not a serious threat. Firstly, colleges just don’t see themselves as being in serious competition with each other in this sense. Moreover, incentives to grab more market share are small. Lowering prices to increase volume is not usually a short-term option, as increasing student population involves building more dorms and classrooms, and that would take years. A college could lower prices to get a smarter or more talented student body, which is nice, but lowering prices without increasing units sold means a drop in revenue.

 

But the big reason colleges can continually ratchet up prices is that there is virtually no pushback from consumers. They may consider a cheaper vendor, but they are going to buy. Why? Because even at these high-by-historical-standards prices, college is still very much worth it.

 

According to a 2006 study from the Census, the difference in annual income between a college grad and non-college grad was about $23,000. What should a person be willing to pay for that? Well, assuming a 5% discount rate, I get a present value for 40 annual $23,000 payments of around $395,000. In contrast the average four-year tuition at a private college, $105,000, doesn’t seem so pricey.

 

Of course, there are people who don’t have $105K lying around. Not to worry, there’s plenty of financing available, most of it government subsidized and of the "no income, no assets, no problem" variety. And if that’s not enough, discounts are available.

 

The College Board is very careful to refer to what it's measuring as "published tuition," i.e., as opposed to what is actually charged. In other words, these are asking prices. Turns out, only about one-third of students pay list.

 

Of course, getting a discount on tuition is not like getting a new car for less than sticker. Colleges expect to start the discussion with a full and complete disclosure of exactly how much money you have so they can decide how much you are good for. Imagine going into a car dealership with a stack of tax returns and bank statements so the salesman can work out how much you can afford to pay for that new minivan.

 

A college degree is the dream product for any businessman. It costs little to produce, people desperately want it, and you can actually charge different customers different amounts for the same thing depending on how much money they have.

 

Except for the fact that all this developed mostly by accident, I might be willing to retract some of my statements about how muddle-headed professors are when it comes to business. In fact, it’s a wonder that the business world hasn’t tried to adopt the same model or get into the college biz in a big way. Google College, anyone?

 

Related reading at Bad Money Advice:

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