College: Why It Is Not a Bubble

by Gary North

Recently by Gary North: Why I Hung Up on a New York Times Reporter

Before I begin, I am going to give you a permanent edge. I am going to show you how economic forecasters do their work. The general public is unaware of this procedure. I suggest that you keep this information in mind whenever you read reports on what is ahead for the economy.

As an example of how this procedure works in practice, consider a recent theme: college education as the next economic bubble. I did a search on Google for "college" and "bubble." Here is what I got.

Incredible. Over 41 million hits. I don't think there are 41 million separate documents, but there is no question that this is a hot topic.

Editors move in packs. Last month, I got an email from a reporter at Newsweek. She wanted to discuss this topic with me. Some editor had assigned it to her.

Why me? Maybe because of my article in the New York Times on the Ph.D. glut. I wrote it in 2006.

By 2006, I had been writing on this topic for over three decades. The Times finally picked it up.

Here was my main point. The Ph.D. glut hit in the spring of 1969. It had been foreseen as early as 1964, when Allan Cartter, the chancellor of New York University, wrote an article on the looming Ph.D glut in the sciences. He targeted the exact date: 1969. Clark Kerr, president of the University of California, in the mid-1960s had verbally warned a group of elite students that it was coming. I was in the organization. I heard him say it. But I did not drop out of grad school because of this. I doubt that any of my peers did, either.

In May 1971, four decades ago, Time Magazine ran an article, "Education: Graduates and Jobs: A Grave New World." It raised the same sorts of issues that the "Is College a Bubble?" articles raise today. It quoted Allan Cartter.

This year applications to graduate schools are up slightly over 1970 totals, despite the fact that it is now clear that the long climb up the ladder to the Ph.D. no longer guarantees secure footing at the top. Economic recovery will provide some new jobs for these specialists, but not enough of them. Says New York University Chancellor Allan Cartter: "We have created a graduate-education and research establishment in American universities that is about 30% to 50% larger than we shall effectively use in the 1970s and early 1980s."

Yet every year since 1971, the American higher education system has certified anywhere from 30,000 to 65,000 new Ph.D. degrees a year. The number is accelerating. In 2010, The Economist reported the following. The number of openings to teach are about one-quarter of the annual output of the universities.

Why do the universities do this? Because professors love the system. The grad students and post-docs teach undergraduates, especially freshmen and sophomores, for $20,000 a year. They do lots of research, which professors then use.

But there is something else, which is rarely mentioned in articles aimed at the general reader. Universities have a funding system called FTE: full-time equivalent. It assesses the weight given to students for fulfilling departmental teaching load requirements. The FTE varies, campus to campus, but generally a graduate student is worth at least twice what an undergraduate is. So, a professor with a course with ten graduate students has met his obligation. He would have to teach 20 undergraduates to meet his obligation. Teaching graduate students reduces his workload. So, faculty members do not warn grad students that they are not investing their time and money wisely. It would not be in their self-interest to issue such warnings.

THE ECONOMICS OF SOCIAL STATUS

In the best universities, we find mega-classes of 500 to 1,000 students. Lower division students sit in huge lecture halls and listen to a professor give a lecture that could just as well be in a digital format on a server. If an Ivy League school charges $35,000 a year for tuition, that is $1,166 per semester credit. So, a college generates well over $10,000 per student per one-year mega-course. The student is taught by a $20,000 per year graduate assistant, who runs discussion sessions. Put 1,000 students in a lecture hall for a year, and the school earns gross revenues of $10 million.

Is this worth the money? Parents think so. Donors think so. Students think so. Why? Because of the perceived prestige of the diploma. Also, the parent thinks the student will make personal contacts with high-earners.

Is this strategy working? No. Has it ever worked for most students? No. But the myth goes on. It has gone on for centuries.

A student can earn a B.A. from an accredited college by taking CLEP exams and courses by examination from anywhere in the country. The liberal arts degree will cost as little as $11,000. A student can stay at home – room and board – and work part-time in a local business, learning the basics of that business. Maybe he or she can graduate in three years. I am working with an 18-year-old who has a B.A. He got it while he took his high school work. He was home schooled.

Is a $200,000 degree from an Ivy League school going to pay off with lifetime income 18 times higher than someone who paid $11,000 to get a degree at a no-name college? Not likely. Yet there are ten applications for every freshman slot at the big-name schools. These students are the best and the brightest.

This is no bubble. This has been going on since 1636 in Harvard's case. Parents want to get their children certified as the best. They will pay the price. Is this foolish? I think so. But let's not call it a bubble. A pricing structure that works for almost 400 years is not a bubble. It has worked in Europe for 900 years.

Parents are buying a consumer good. "My child just got into [Prestige U]." The parent gets bragging rights. He does not perceive this as a neon sign over his mortgaged front door that says, "Sucker!"

Then in year three the kid drops out. What is the investment worth then?

The horror stories are grist for journalism's mill. Some girl borrows $100,000 to get a B.A. degree in some useless liberal arts field like art history. She is now unmarriageable. No young man wants to add $100,000 to his debt. I have a department devoted to these stories.

Parents can read lots of articles on how this is a bad idea, but nothing changes. The lemmings continue to pour in. The "Time" article in 1971 changed few minds. The stories on "Is college a bubble?" will change few minds.

TAX-SUBSIDIZED FAILURE

Massachusetts was the last state to abandon tax support of churches. That was in 1832. Within five years, it had begun state funding of education. A new established church replaced the old one. This established church spread in popularity.

Parents who are convinced that state funding is necessary for K-12 education generally believe that state funding of another educational establishment is mandatory: higher education.

Something in the range of 3.1% of America's GDP was spent on higher education in 2007, according to the annual publication of the Organisation for Economic Co-operation and Development (OECD), "Education at a Glance, 2010: OECD Indicators." Some 2.1% of this was tax-funded (table, p. 220). This was in the range of $300 billion a year.

Higher education is a gigantic industry. As with any bureaucracy that is funded by the government and which is granted a licensing monopoly by the government it exists above all to make sure that the funding and licensing continues.

Typical of the puffery from inside the industry was an article summarizing the 2009 edition of the OECD report. It appeared in The Chronicle of Higher Education, the mouthpiece of America's professoriate. The title: "Across 30 Nations, Public Spending on Higher Education Pays Off, Report Says." We read:

In periods of economic difficulty, the "opportunity costs" for opting to remain in higher education versus joining the work force are low, he said, adding that with those costs now at historic lows, demand for higher education will continue to grow.

Then there was a subhead: "Benefits of Public Spending." We are told that the investment in putting a male (note the gender specificity) though college gets a return to the public of over $50,000 in the OECD nations.

Wow! $50,000! But how did the author determine this? Was it based on lifetime tax receipts? What did it cost in the present to generate this $50,000 profit? I did a little investigating. Here is what the 2009 report said.

The net public return from an investment in tertiary education for a male student exceeds, on average across OECD countries, USD 50,000. This is almost twice the amount of the investment made by the public side, and as such, provides a strong incentive to expand higher education in most countries through either public or private financing (p. 153).

Here is what the 2010 report said.

On average across countries, the net public return to an investment in tertiary education is USD 86 000 for males, when accounting for the main costs and benefits of this level of education. This is almost three times the amount of public investment in tertiary education, and as such, provides a strong incentive for governments to expand higher education (p. 135).

Wow again! In just one year, the net return to the public increased by 72%. I can think of no other investment in a bureaucratic structure that has been operating for 900 years that experienced such a one-year increase.

On the other hand, a skeptical reader could conclude that the statistics are off-the-wall nuts. They are fake. They have no correlation with reality.

Returning to the 2009 article in The Chronicle, we read that OECD report's author concludes that this is "the right choice." He continued:

In virtually every country, the public benefits of higher education outweigh the costs. The traditional wisdom was that higher education benefits individuals most, but this was the first time we looked at public costs and public benefits in conjunction.

But there is a problem with all this. The supposed $50,000 return is spread over the working years of the men who graduate. Most of the enrollees do not graduate. And most of the American attendees are not men. Over 55% are women.

This sort of reporting is accepted at face value by the vast majority of voters. They do not regard this as self-serving public relations from the beneficiaries of $300 billion a year in taxes.

Then there are millions of college drop-outs. These people absorb all of that tax money, but then quit before they graduate. They get no benefit personally from the time and money they invested. They have lost several years of forfeited income, but their time and money – and the taxpayers' money – counts for nothing. Yet almost two-thirds of students who enroll fail to graduate.

The American rate of 36.5 percent is below the OECD average of 39 percent, and the United States has rapidly lost ground against other countries. In 1995, the United States ranked first in completion rates; today it occupies the 14th spot.

"What that tells you is that a number of other countries have been much more successful in expanding their higher-education systems," said Mr. Schleicher. "The United States has fallen so far behind in higher-education completion, and private costs have become so high, that some people are suggesting that tuition has become a barrier to extending participation."

Imagine that! Tuition is a barrier. In other words, prices reduce the quantity demanded. Will wonders never cease?

VOTERS SUPPORT THIS

There is no question that voters support this system. They have supported it ever since the Civil War. The Morrill Act of 1862 set up the land grant college system. It was followed by the Morrill Act of 1890. It subsidized the establishment of tax-funded agricultural colleges. The system of tax support kept growing. It went exponential after World War II.

Then came Federal research grants. This system of Federal funding undermined the old hierarchy in higher education. It undermined community. Conservative scholar Robert Nisbet wrote about it a generation ago: The Degradation of the Academic Dogma (1971).

This is no bubble. This is the outcome of a systematic program of propaganda. It promotes the salvation of mankind through formal education. It offers the hope of access to jobs that are restricted to college graduates. Parents think that the ticket to success is higher education. They do not care about the content of education. They never have. They think they are buying success through hoop-jumping. So do their children.

It is not working any more. The Ph.D. glut that began in 1969 soon spread to the M.A. degree. Now the B.A. in most liberal arts is no longer working to guarantee employment.

It didn't in 1971, either. So, a situation that hits in every recession has hit again. Graduates are saddled with $20,000 in student debt on average, and they have moved home. They can't find jobs. The jobs available they could have taken after high school.

Will this stop? No. Each student thinks, "It will not happen to me." Each student thinks, "I will graduate and get a high-paying job." These people are graduates of Lake Wobegon High School: they are all above average.

CONCLUSION

Where religion is involved, people rarely change. College education is part of a religion: salvation (healing) by formal education.

The voters believe in tax-funded K-12 education. It gets worse. The budgets increase. The test scores fall. Yet voters just refuse to give up. They think one more reform will do the trick. It won't.

This same faith is transferred to college. Nothing changes for the better. Year after year, decade after decade, student performance falls and costs rise. This is what state funding always does. There is no negative feedback system that says: "Stop!"

To speak of college as a bubble is silly. A bubble does not pop until months or years after the funding ceases. There is no indication that the funding for college education will cease.

Until there is a rebellion against tax-funding of all education, beginning with kindergarten, college costs will rise and performance will fall. The horror stories will continue.

We get what we pay for. We especially get what we pay for with our tax money. What you see is what you get: a self-policed monopoly, a self-serving bureaucracy, and entrenched resistance to change imposed by representatives of the people who are funding the system. "Academic freedom" has always meant the same thing, from Prussian universities in 1820 until today: tax-subsidized intellectual kidnapping of children.

We do not get bubbles. We get quagmires.

May 2, 2011

Gary North [send him mail] is the author of Mises on Money. Visit http://www.garynorth.com. He is also the author of a free 20-volume series, An Economic Commentary on the Bible.

Copyright © 2011 Gary North

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