An excess of demanders in the College Market

In browsing the Marginal Revolution web log, I came across a posting on college admissions (posted June 3). As we are all entrenched in college life I think this is a relevant article. I first read Fabio Rojas’ comment and followed the link to the original San Francisco Gate article. The article focuses on two universities in California- UC Los Angeles (UCLA) and UC Berkeley (UCB). This year these two universities found themselves unable to find space for all of their admitted students. Enrollment levels were reduced due to statewide budget cuts instituted by Governor Schwarzenegger. In previous years accepted students who could not enter a UC at which they were accepted, on account of enrollment constraints, were offered a space at another UC. This year, however, 7,600 students accepted at UCLA or UCB could not be accommodated at the UC that accepted them or at another UC. The University of California Administration offered these students a promise of enrollment after 2 years of community college coursework. Of the 7,600 students facing this offer, 6,243 rejected the offer and 1,357 accepted the offer. The article quotes one student who rejected the offer and instead accepted admission to New York University (NYU). This student had a substitute and a private (probably more expensive) one at that.
This policy introduced by the University of California struck me. It seems unfair that qualified, accepted students were turned down on account of budget constraints. Rather than raise prices, the university decided to offer the students a place after two years at a community college. These students will thus enter UCB or UCLA as juniors. This would cut their costs considerably; yet, they would miss two years of classes and experiences at universities. For those students with few substitutes, the UC’s offer could work nicely, but many students today apply to several universities. Depending on their qualifications and the schools they applied to, they may have several substitutes.
Essentially their demand is elastic…or is it? In class we learned that goods that are a larger percentage of one’s budget tend to be more elastic in comparison to goods that take up a smaller percentage of one’s budget. College indeed takes up a large percentage (or all) of our budget. Given that demand is elastic, it is more lucrative to keep prices low and students will be less likely to seek substitutes. Given the large number of students who rejected the offer, maybe students applying to UCB and UCLA do not see community college as a substitute? Maybe they would be willing to pay increased tuition (or as we learned—a price above the price ceiling)? In this case however the students did not have an opportunity to respond to a change in price.
Fabio Rojas remarks, “Administrators should view a surplus of customers as a signal that the market can bear some price increases. Instead, California legislators tend to fight tuition increases because they might exclude low income students through grants and financial aid”. He asserts “price hikes for the wealthy and subsidies for the needy is surely a better policy than arbitrary price ceilings and the exclusion of many who are able and willing to pay”. I think Rojas makes an important point. It seems that the university’s policy works well for those with few substitutes due to financial constraints, but the university is turning away students who can pay and could potentially pay increased tuition. It is nice however to think that universities look out for those of us who cannot pay full tuition.
This article and posting also makes me think about the third-party payer concept. Many of us do not pay the full tuition bill. Either we receive help from our parents, the government, or both. Demand for college education is thus higher than it would be if we (as students) we paying the full bill ourselves. Given that, I am wondering if and how demand really responds to tuition increases? Will this really decrease quantity demanded? For those of us on financial aid, it sure will unless financial aid awards increase as well. It would be interesting to take a survey of those who rejected the offer to see which universities they attended instead of UCB or UCLA. This will reveal whether they sought lower cost substitutes or higher costs substitutes.
(References: (1) Schevitz, Tanya. “Rejected UC applicants snub plan. Most turn down delayed-entry program”. (2) Rojas, Fabio. “College Admissions in California”. Marginal Revolution Web log.)

1 comment:

Dr. Tufte said...

I read the Marginal Revolution post and the associated articles when they hit the internet, and I was appalled. This illustrates just about everything that is wrong with government involvement in the provision of private goods.

The first point I want to make is macroeconomic. State legislatures are driven to distraction by business cycle driven fluctuations in their budgets. Amazingly, they almost uniformly do the wrong thing every time there is a recession. During these periods there is an increased need for state services (like public education), both for people who are thrown out of work, and for others who don't enter the labor market because it doesn't look good. But, this occurs precisely at the same time that tax revenue is down because the economy is bad. The response of virtually all legislatures at this point in our history is to cut state funding when people need it the most.

This is precisely what is happening in the University of California system. California has a budget problem, and is cutting spending. This means it can't carry through on its obligations. However, note that not all states get into this position through bad decision making - some just get hit hard by recession. Unfortunately, we all know that California got into its present position by spending too much when the economy was doing well. They should have saved some of that cash.

It isn't that the amount of money is too large either. Figuring $40,000 per student per year at a good university (and assuming the state covers all of that cost), times 7600 students, yields $300 million per year. You'd need to tax each resident of California about $10 per year to cover that. It shouldn't be a big deal ... but students don't vote much, so they get to bear the brunt of bad decision making.

It gets worse. Since those 7600 students are probably the more marginal ones, from amongst those that actually achieve admission, they are precisely the ones who have the most to gain from an education at a major university.

I like the elasticity arguments. I think that college education as a whole is probably elastic, but I am not sure about college education at a specific school (read below what I say about SUU).

I agree with Rojas that the excess of qualified students is an effect of the price ceiling. If they raised the price, the shortage could be eliminated.

I don't agree with the poster that the schools are looking out for people who are less well off. California could have funded all of these students with grants or scholarships. But they didn't. Why not? Because that would be another form of spending. If they cared one iota about poor or struggling (potential) students they'd get them into classrooms. I hate to say it but the evidence is that they don't care.

College education is a great example of the third party payer problem. Students have to cover a small amount of the cost (a place like SUU costs about $15000 per student per year, and an excellent school will cost 3 times that). This makes them demand more. But, when more people come to school, this pushes marginal costs up. Here's how I experience this on my end - summer classes are more fun, and the students are better because most of you want to be here. Classes during the regular school year are filled with lots of students who don't want to be there ... and you can tell because they don't put in enough work.

Lastly, at SUU, administration asked members of the economics faculty to estimate the elasticity with respect to tuition. What they found was that demand was almost perfectly inelastic - that changes in tuition led to almost no changes in enrollment. The result was the large tuition increases last year and the smaller one this year. Guess what happened - enrollment didn't change much, just as the elasticity measurements indicated.