As I have said several times, I do not claim to have originated the concept that demand-side subsidies increase the price of the subsidized commodity. In the area of higher education I can confidently point to someone who still may not be first, but certainly got here ahead of me: former U.S. Secretary of Education William Bennett. His 1987 New York Times op-ed articulated what became known as the Bennett Hypothesis: “increases in financial aid in recent years have enabled colleges and universities blithely to raise their tuitions.”
In 2016 Grey Gordon and Aaron Hedlund published a working paper “Accounting for the Rise in College Tuition” which summarizes some research on this question and proposes a model that indicates that “demand shocks—which consist mostly of changes in financial aid—account for the lion’s share of the higher tuition.”((Another collection of studies appears here, and provides this alarming statistic: “Between 1978 (the first year in which college tuition had its own CPI category) and the third quarter of 2017, the price of tuition and fees increased by 1,335 percent. This rate of growth exceeded that of medical costs (704 percent), new home construction (511 percent) and the Consumer Price Index for all items (293 percent). [footnotes omitted]”)) What would happen if the government (meaning taxpayers) provided free tuition as Bernie Sanders and other “progressives” propose?
As with any other vendor, the college wants to maximize its revenue (for only the best of motives of course). Colleges compete for students in more ways than academic prestige; I would bet student living is significantly more comfortable than in the past. The cost of tuition is less an immediate consideration. Indeed, higher tuition may be a status symbol and a surrogate for the quality of the education.
Here, as in other sectors, there exists a group of students who (or perhaps more accurately, whose parents) can afford and are willing to pay without subsidy. Others must receive financial aid (financed in part no doubt by those paying full freight). It has become impossible to save or work one’s way through college.
Jay Bohn
August 26, 2021