Does FEE-HELP inflate fees?

In this week’s Higher Education Supplement in The Australian, higher education commentator Gavin Moodie offers the Liberal Opposition some policy advice. Some of it, such as introducing vouchers, unsurprisingly I think is sound. However there is also this:

There would have to be a cap on fees because the whole point of an income-contingent loan is to insulate students from the immediate cost of student fees, thus removing any price discipline on tuition fees as the US has found much to its cost.

This was an issue discussed at a workshop on the FEE-HELP loan scheme in Canberra this week. The idea behind a student loans scheme is, of course, to help students pay more than they would if tuition fees had to be paid upfront. To the extent that there is historic underinvestment in education, we would expect price increases when a loans scheme is introduced.

In the not-for-profit private non-university higher education sector this is what seems to have happened, with substantial fee increases observed in most of the institutions for which I have data in the year they received access to FEE-HELP, or the following year. But is this removing ‘any price discipline’? I doubt this. Their fees are still below what a public university would receive for a Commonwealth-supported place in the same discipline.

My theory, consistent with anecdotal evidence, is that the not-for-profits are improving the quality of what they offer and reducing their reliance on donations and overworked staff. If so, this is FEE-HELP doing its job, not creating a problem to be fixed.

If we use the income from a Commonwealth-supported place as the benchmark, there is very little evidence that ‘excessive’ prices are being charged by higher education institutions. Some public universities are also charging less than the CSP benchmark. A relatively expensive institution, such as Bond University, offers a qualitatively different product, including small class sizes.

The only prima facie case of ‘excessive’ pricing is found in some higher-prestige universities, where particularly for law and commerce courses full-fee students are charged a large premium on top of the CSP rate.

However, even here the case for price control is unclear. One study found that in those disciplines universities are on average spending more than they receive for a CSP. Because universities have some price-controlled places they must provide below cost, they are price discriminating and charging other students much more. Average prices would be much closer to average costs than the prices paid by full-fee students.

But the fact that some students are prepared to pay vastly more than the Commonwealth-supported rate (counting both Commonwealth and student contributions) suggests that the CSP rate underprices the course, compared to its market value. Those who favour price control are, at least implicitly, arguing that the student should capture, as a private benefit, the premium revealed by the full-fee market. Those who support unregulated fees are saying that the university should get some of the premium. It is not clear to me that a private benefit should be favoured over a possible quasi-public benefit in added university revenues.

Moodie is right that the US experience is that tuition fees have increased above inflation for a long time. The contribution of soft loans is, however, unclear. In Australia, we observe significant price increases for international students, who are part of a very competitive international market with little access to soft loans (except perhaps from parents).

And while some people avoid repaying their student debts, it is not likely that the major causes of this – poor labour market performance, living overseas and death – figure significantly in decisions about how much to pay for a course. In many cases, students won’t even be aware that they will end up as non-payers. So while as I have suggested (pdf) we should collect student debts from people living overseas and from deceased estates, this is more important for lessening the cost of FEE-HELP to taxpayers than for controlling prices.

We probably have to accept that higher education is an industry which for various reasons has trouble increasing productivity without decreasing quality, and so prices tend to go up in real terms.

Public universities have so many full-fee students to alleviate the effects of incompetent price setting for Commonwealth-supported places. Universities are trying to avoid the lower-quality implications of fees kept below costs. More price control is the last thing Australian higher education needs.

3 thoughts on “Does FEE-HELP inflate fees?

  1. It’s an interesting one, Andrew. I think if there are low barriers to entry (and expansion) of high-demand places, it would make sense to allow prices to rise to encourage more supply. However, if the number of places is fixed, the issue of price becomes, as you say, a matter of how the welfare surplus derived from a student taking the course is allocated between the student and the university. In a completely uncapped but place-restricted market, the marginal student would not retain any surplus from undertaking the course whereas the institution would capture the difference between the price and the average course cost.

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  2. Rajat – This is an unusual industry, in that because some universities are prestige-maximisers more than profit-maximisers there is a disincentive to expand to meet demand. For students also in the market for prestige, they could end up paying very high fees to get that prestige. As I say, it is not clear that there is a policy problem in the deregulated system which allows universities to capture a large share of the prestige value.

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  3. Andrew, even a profit-maximising institution may choose not to expand supply to “meet demand”, if by this you mean expand places until the price equals the marginal cost of provision. They key issue is whether supply can adjust at all. If supply of prestigious places is prevented from expansion due to artificially-imposed controls (ie not as a result of trade-offs made by the institutions themselves), then it is not clear whether price controls are a bad thing. In this case, a price cap will at least ensure that the marginal student captures some gains from the course. But in any case, it sounds like universities could expand places (to some extent) in response to higher prices, so in that case I would agree that price caps should not be imposed.

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