

A Tutorial on Tuition

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AFTER CELEBRATING YOUR beloved child's admission to a prestigious university, it is now the season for writing your first tuition check. This may inspire the same mix of foreboding, anger and despair as that check you wrote to Uncle Sam last April 15. But you should not feel as bad about writing this check.

The College Board publishes summary statistics each year on the average enrollment-weighted cost of tuition at four-year private and public colleges in the U.S. The real tuition cost, after inflation, of private colleges since the 1975-76 school year has risen 165%. It was $21,235 in the 2005-2006 school year, compared to the $8,026 of 30 years earlier.

This trend leads to the familiar headline, "Cost of College Outpaces Inflation Again!"

Everyone who pays tuition believes it to be a bad thing when tuition and fees go up faster than inflation. But is it really?

Consider: In what kind of world would we see headlines like the following: "For 30th year, Tuition Increase Fails to Exceed Inflation."

Answer: A world in which higher education has accounted for a smaller and smaller proportion of Gross Domestic Product.

This doesn't sound so good: "Nation Invests Less in Higher Education for 30th Year; Sector Shrinks 62% since 1975." But these headlines would describe the same world.

If the growth in college tuition did not exceed inflation in an economy experiencing real growth, then the share of the economy represented by the college sector would necessarily shrink. If you believe that higher education is one of the important drivers of economic advancement then you should worry a lot if higher education's share of the economy were shrinking.

Fortunately, the growth in real GDP has almost exactly matched the growth in real private college tuition since 1975 -- the U.S. economy is now 2.58 times as large, in real terms, as 30 years ago.

Rising Rewards

It helps to know the basic structure of university budgets: Tuition equals salaries. When we say that real college tuition is 2.65 times what it was 30 years ago, we are also saying that real faculty wages are about 2.65 times what they were 30 years ago.

The typical college professor excites little sympathy on any count, so let's turn that around: How interested in your job would you be if it paid 60% less than it now does -- would it still seem like an attractive career? If tuition had not grown in real terms over the past 30 years, real faculty salaries would likewise not have grown; and many college faculty would do better today as barbers or auto mechanics.

Higher education is a service. If there is to be real GDP growth in our service economy, and if higher education is not to shrink as a portion of it, then college tuition must rise faster than the rate of inflation. In fact, it has to rise approximately 3% per year faster than inflation to match the expected real growth in the economy.

You have never seen the headline, "Private Colleges Cheaper than Ever Before -- 30 Year Decline Continues." But for some part of American society, this is the true and correct headline. For other parts of American society, the story is just as the conventional headline tells it: "College Slips Further Out of Reach for Many." So, the next part of the story is a tale of class and social division.

Ability to Pay

If we compare tuition to median family income, all the conventional gnashing of teeth comes back. Private college costs have far outstripped increases in median family income -- it's more than twice as hard today for the median-income family to pay for private college tuition as 30 years ago. But this comparison is specious. The median-income family couldn't afford private college tuition 30 years ago, either. The median-income family is simply not the target market for private colleges, except for scholarship students who bring something special to campus. They, of course, are getting a discount to make higher education more affordable.

Private colleges historically have drawn full-tuition students from families in the upper reaches of the income distribution. A family on the border of the upper middle class, at say the 80th percentile of family income, does still encounter a real cost of a private college education that has outstripped the growth in income -- but not by as much as most people think. The same is true for a family near the lower border of the upper class, around the 95th percentile.

But few families in the top strata expect to pay for college out of current income only. Given the incremental wage gains that accrue to a college education, it is in any case fair to regard tuition as the capitalized cost of obtaining those future wage gains. Hence, a proper perspective on the cost of private college tuition has to include capital income as well as wage income.

From the standpoint of families whose income is in the 95th percentile, and who are likely to enjoy substantial capital resources as well as generous wages, private college is considerably cheaper now than 30 years ago. Such a family has seen its real capital resources increase by a factor of 678%. For these folks, the cost of a private college education, relative to family capital, has shrunk by almost two-thirds.

In other words, the cost of sending Mortimer or Abigail to Harvard has shrunk by a great deal relative to the family resources typically available to the upper-income families who pay full tuition.

The real tragedy of increasing college costs has nothing to do with the tuition charged by Harvard and the like.

Increases in public college tuition have actually outstripped the increases in private college tuition -- here the real increase since 1975 is close to 260%. The historical target market for public universities -- median-income families hoping to provide their children with the means to enter the upper income strata -- saw its real income increase by only 27% during the period. This is the real college cost crunch. It is much, much harder for a policeman or a school teacher to send his child to State University today, as opposed to 30 years ago.

On the other hand, the balance between tuition and tax support for public colleges is a decision made by elected legislators. Median-income families and those of similar means, account for the majority of the electorate by far (those in the lowest quartile tend not to vote). If the policeman voted for prisons rather than universities, if the schoolteacher voted for state support of K-12 education rather than university education, then, as Sartre might say, it is inauthentic for them to bemoan the increased costs of a public university education relative to median family income. The voters have had their say on this apportionment, and must now live with the consequences.

Facing Reality

Readers with college-age children should be grateful that Harvard and other elite universities are, by and large, run by ivory-tower idealists who espouse democratic rather than elitist ideals. For if the cost of a Harvard education had kept up with the returns to capital since 1975, tuition today would be $94,500 a year -- not $32,000.

Younger readers, with a newborn child and a bit of surplus family capital, hold fast to this: It is highly likely that a portfolio allocated 80% to 20-year inflation-protected bonds (current real yield of about 2.3%), and 20% to an S&P 500 index fund (real return since 1926 averaging 7% or so) will provide the necessary funds when and if your newborn is ready to attend a private college.

Unless, of course, Harvard and its ilk wake up and begin to charge what the traffic -- families with surplus capital -- could readily bear.