The Cost of College Is Not the Same Thing as the Net Price of College

by Reihan Salam

David Leonhardt argues that when the federal government focuses on the list prices colleges publish in their brochures, it paints a misleading picture of the cost of college. Instead, he suggests that we focus on the amount of money students and their families pay to attend college after financial-aid grants. Unfortunately, I think that Leonhardt’s analysis glosses over an important distinction. 

The next time you hear somebody describe college as costing $60,000 a year, know that the truth is: It costs $60,000 for affluent students who don’t qualify for financial aid to attend one of the elite colleges that a tiny share of Americans attend (and the figures includes housing and food).

Taking into account financial aid — some of which comes from the colleges themselves, some of which comes from the government — the average tuition and fees were $12,460 at private colleges last year and $3,120 for in-state students at public four-year colleges, according to the College Board. At those prices, college is an investment with an excellent return for the vast majority of students who graduate. [Emphasis added]

The problem with the passage above is that ”price” and “cost” are not actually the same thing. The price is what a consumer is charged. The cost reflects the resources required to produce a given product or service. The cost of educating a student at (say) a residential four-year college might actually be higher than even the full tuition charged an affluent student; the difference could be made up by, for example, income from an endowment, or some other infusion of funds. 

If we embrace Leonhardt’s analysis, we might conclude that the only problem with higher education is that net prices, i.e., prices after financial-aid grants, are too high. He’s not alone in focusing on the net price of higher education and discounting the importance of the gap between the net price and the underlying cost, which is borne by some combination of private philanthropy (usually fairly minor) and taxpayer contributions (major). I believe that taxpayers ought to subsidize higher education to some degree. Yet I’m skeptical that taxpayers should utterly ignore the underlying cost of providing higher education services, not least because ignoring these costs, and the sources of the escalation of these costs, contributes to a lack of spending discipline. 

Indeed, when Leonhardt touches on the actual costs of supplying higher education services, he seems oddly resigned about the trend:

Higher education is a white-collar service industry that is split between the public and private sectors and largely immune from foreign competition, much as health care is and, to a lesser extent, day care is. We shouldn’t be surprised that the actual increase in real college prices over the last two decades – somewhere in the range of 40 percent to 50 percent – is quite similar to that of health care or day care.

What Leonhardt misses, however, is that there are other sectors largely immune from foreign competition, e.g., retail, that have experienced meaningful productivity gains over the past few decades, thanks in large part to business model innovation that, for a variety of reasons, is difficult to achieve in the health and education sectors, for reasons that Arnold Kling and Nick Schulz address in their essay on “The New Commanding Heights,” and which the analysts at the Christensen Institute, who’ve done valuable work on blended learning and other disruptive innovations, follow closely. We shouldn’t be surprised by the poor performance of higher education not simply because it is a white-collar service industry plagued by Baumol’s disease, but rather because, as Kevin Carey of the New America Foundation often argues, existing accreditation bodies serve as a cartel that shields incumbent higher education institutions from meaningful competition. When a cartel is at work, and when you have vocal and influential political defenders who fight all efforts to impose spending discipline, there is little reason to cut costs. 

To understand why the underlying cost of college matters far more than the price, I recommend reading Anya Kamenetz’s ”$1 Trillion and Rising,” a report for Third Way. The following is drawn from Jonathan Cowan and Elaine Kamarck’s introduction to the paper, which captures its essential spirit:

Too many young people and their families carry crushing burdens of educational debt. And yet, a college degree is more important than ever before. The traditional approach to this problem has been for government to subsidize the ever-rising cost, and it has had the perverse effect of actually rewarding colleges as the expense rises, but in an era of strapped federal, state, and local budgets there are severe limits to this strategy.

This paper takes a dramatically different approach and instead focuses on reducing the actual price of a degree. It looks at the causes of rapid increases in the cost of a college degree and at innovations in higher education that could bring about a revolution in productivity and a dramatic reduction in the cost of a degree. The paper outlines six potentially controversial but essential steps that we must take to put us on the road to a quality ten thousand dollar college degree. [Emphasis added]

Kamenetz is very clear that she does not believe that raising productivity should serve as a justification for cutting financial aid. She does, however, see the value in raising productivity so that aid dollars can go further.