Saturday, August 24, 2013

Obama, College, and Demand Curves

After President Obama's call to make college more affordable, several economists went off the rails. The main argument involved demand curves. When you increase demand (such as by making college "more affordable"), price goes up, not down. That's what economics textbooks have said in their first chapters for centuries. And it's usually right.

The case of college is different. The demand for college is set by the amount of students who have shown they are (1) smart enough, (2) determined enough, and (3) desirous enough to go to college. I would think the percentage of HS students (and non-traditional students) that meet these criteria remains relatively stable over the decades, although I have no data to back this up. In other words, intuitively, the demand for college has been stable for a long time.

What has happened is that the soaring cost of going to college has taken this group of students who want to attend college (demand) and removed some of them from the market completely. The cost of college is so high that this group doesn't even consider college an option regardless of what sort of opportunity cost calculations they do in their head. Since economics is all about CHOICE, and these students view their position as devoid of choice, this part of the demand for college has been almost a ghost. They are living human beings who have shown the traits needed to succeed in college, but the market has removed them from the equation as if they were inanimate. That's certainly not a good thing.

Now this would be a different story if we were talking about, say, the market for 5 star hotels in luxurious locations. For me as a public school teacher, I have no choice to stay at the new Four Seasons hotel in the Serengeti for two weeks. I'm not in the market at all. In this case, that's not a bad thing. The market is working as it should. So what is the qualitative difference between college and luxury getaways? Several.

First, there is the positive freedom of education. It isn't in the constitution, but our society believes that those who have a desire to learn also have a freedom to achieve that desire. This closely ties into Amartya Sen's views of development as freedom and Martha Nussbaum's views of creating capabilities.

Second, an educated citizenry is a social good. Not only does the person who graduates from college (hopefully) benefit from that education, but society as a whole benefits from their education. In economics speak, this is a positive externality. The good that society as a whole receives is not priced into that individual's tuition. The two exceptions being government grants and government subsidized loans where tax dollars are used to fund education. You can call this a Pigovian subsidy I suppose, but it makes sense even from a neoclassical econ viewpoint.

So, if we make college more affordable, do we skew demand curves? Yes and no. The number of students who have shown they have what it takes to make it in college does not increase. So no, demand does not increase. The number of students that have what it takes AND can make the opportunity cost choice to attend college WILL increase. In other words, those students who weren't even allowed in the market are now allowed in. So in this sense demand WILL increase. And possibly a bump in cost as well. Demand curves slope downwards of course.

So where do you make up the difference? How can we allow these students that were not allowed in the market into the market and still keep prices affordable? There's the rub.

Not quite. Colleges have a built in demand limiter which they have been failing miserably at using. It's called the application process. As I mentioned before, we can intuitively agree that the percentage of HS seniors that have what it takes to make it in college remains relatively stable. As about every college professor, student, or alumni will attest, however, colleges have been admitting more and more students who have NOT shown they have what it takes to make it in college. They require multiple streams of remediation in multiple subjects. They simply are not ready for college. Some of them could have been ready but their HS let them down. Others are probably better suited for vocational schools but haven't realized it yet. Still others may be freeloading off of government grants and subsidized loans they know they can't repay just to prolong childhood. Whatever the case, colleges themselves can remove these students that shouldn't be there from the market. This would thus allow room for the group that SHOULD have been there but had been removed. Demand curve remains intact.

BAM. I've solved the problem of college tuition. Stockholm, email me for contact info.


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