Beyond Supply and Demand

Henry E. Riggs, president emeritus of Harvey Mudd College and the Keck Graduate Institute, recently argued -- wrongly, in my view -- in The New York Times that it is supply and demand that explains why the price for college is so high. In fact, at the selective, nonprofit privates, there is huge excess demand for seats that is not cleared by price; the seats in these colleges are rationed, with all those rejected applicants (upwards of 90 percent of those who apply to some of these colleges) wanting a spot at the current price.

Price is explicitly not allowed to rise and clear the market. Some parents might have been willing to pay an extra $100 or $1,000 to get their child into their dream school, or perhaps even an extra $10,000, given what they are paying SAT tutors and admissions advisers. Colleges and universities create this excess demand, so that they can select the students they want from the long queue of applicants, recognizing that the quality of their college or university depends to a large extent on the quality of the students who attend. The excess demand is intentional, and is generated by spending more than the price charged and spending those resources in ways that make the institution as attractive as possible to desirable students. Some colleges do this by keeping class size small; some do it by having great football teams.

These expenditure decisions in part depend on what kind of students the college wants to attract – how they define student quality. Why doesn’t Pomona College eliminate tuition and spend less on each student, perhaps what Earlham College spends, as suggested by Riggs? Because then the excess demand on the part of students for a Pomona education would go down, and Pomona would not get to choose among the same quality of applicants as they do now. And they realize that eliminating tuition wouldn’t increase that excess demand as much as cutting spending reduces it. Many families are willing and able to pay for those things that would have to be cut, were tuition not bringing in any revenue to support spending, and will go elsewhere in search of those programs. Are these families and students just in search of prestige? I would argue that prestige is closely related to the quality of the program and of the students who attend an institution, which in turn depends importantly if not perfectly on how much is being spent per student, and not so much on price.

Do they "need" to spend so much, as Riggs asks? Maybe another way of asking this is, is it good for American higher education, or more importantly for America, that this is how this market works? An important outcome of this is that the most talented students, as defined by these selective institutions, have the most spent on their educations. And, with significant resources allocated to financial aid and a commitment to diversity, this includes talented students from all different backgrounds, certainly more so than in the past. If talented students benefit the most from large investments in their education, then this may be optimal. (One could still worry a bit about more being spent on students that these institutions value for reasons other than academic talent, such as legacy status or athletic ability.)

The important public policy question, which in times of budget cuts will become increasingly important, is just how much more should be spent on talented students relative to others. As funding for public higher education, where most students are educated, continues to be reduced, relative spending will shift even more toward the talented students who get admitted to the most selective schools. To the extent that the nonprofit private sector and these selective colleges remain committed to and increase their commitment to academically talented students from all backgrounds, through their admissions and financial aid policies, their large investments are being made for the right reasons.