Cato Online Forum

Raise Tuition at State Universities to Boost Long-Term Economic Growth

By Ben Wildavsky
November 2014

Any strategy designed to deploy higher education for improved economic growth must start with this indisputable (yet often disputed) proposition: graduating from college is, on average, good for the graduate and good for the country. College graduates enjoy dramatically lower unemployment rates than their high-school-educated counterparts. They earn more, too. Despite rising tuition and student debt loads, the lifetime earnings of bachelor’s degree holders are 75 percent higher than they were 30 years ago. Indeed, the financial returns to a college education — as observers like Laura d’Andrea Tyson, a professor at the Haas School of Business at the University of California, Berkeley, have noted — significantly exceed the payoff to investments such as stocks, bonds, housing, and gold.

The same trends generally hold true globally, where postsecondary education brings significant benefits to individuals and to nations. A recent Organisation for Economic Co-operation and Development study found, unsurprisingly, that spending on higher education, together with forgone tax revenues while students are out of the labor force, is costly for governments. But these expenses are more than offset by the higher tax revenues that go along with college graduates’ higher wages, as well as by lower outlays to college grads for social programs. On average, the study found, the return to governments for higher education spending is approximately 4 to 1 for men and 2.5 to 1 for women.

All this amply reinforces a core observation in The Race between Education and Technology, the influential 2008 book by Harvard economists Claudia Goldin and Lawrence Katz: “Human capital,” they write, “embodied in one’s people, is the most fundamental part of the wealth of nations.”

Against this backdrop, national and state policymakers’ push to improve the quality of human capital in the United States by raising college graduation rates makes a lot of sense. And ideas abound: rethinking the structure of student loans, lowering costs by improving campus productivity, changing the structure of degrees, bringing classes online, and more. Underlying most of these proposals is the recognition that improving access, affordability, and graduation rates is especially important for low-income students. They are less likely than others to enroll in college, and significantly less likely to make it to graduation. As a result, they will often miss out on the financial benefits that accrue to earning a college diploma. The nation’s economy will miss out on gains as well.

But although the case for some level of state support for higher education is strong, one of the most cherished policies used to promote college attendance — low in-state tuition at state universities around the country — does much less than it could to attract and retain low-income students. Instead, it provides heavy subsidies to students who would go to college anyway. This is neither an optimal use of taxpayer dollars nor a promising path to economic growth.

Public tuition subsidies at the state level are enormous, and those subsidies apply to the lion’s share of undergrads nationally. Despite all the attention paid to fast-rising tuition at Ivy League colleges and other elite institutions, the vast majority of American undergraduates-nearly four in five-attend public colleges and universities. And while tuition has risen significantly at many of those institutions in recent years, students still pay nowhere near the actual cost of their education. In 37 of 50 states, average list prices for public colleges and universities range from $10,000 to $14,000. That list-price tuition covers only 50 to 60 percent of undergraduate costs, on average.

To be sure, states vary significantly in how much they expect students to pay. On the low end, New Hampshire taxpayers cover only 16 percent of costs at state schools, according to a recent Lumina Foundation report. On the high end, Wyoming provides an unusually large subsidy-86 percent of total costs. Still, the extent of across-the-board subsidies is considerable. Writing in the Washington Post recently, Fred Hiatt noted that in-state tuition plus fees at the University of Maryland’s flagship College Park campus comes to $9,400, while the state appropriates $19,000 for each Maryland college student.

Americans have come to take for granted such high levels of state support for college tuition. But unlike, say, federal Pell grants, which are targeted at students from low-income families, low tuition at state college and universities is an across-the-board subsidy for rich and poor alike. This is hugely problematic given the large numbers of affluent students to be found at state schools, particularly the most selective institutions. Family income figures for students at state schools are hard to come by. But a study by the Higher Education Research Institute found that in 2004, 40 percent of freshmen at the 42 most selective state schools in the country — including the likes of Berkeley and the University of Michigan — came from families making more than $100,000. In Michigan’s freshman class in the late 1990s, New York Times reporter David Leonhardt has written, there were more undergraduates from families making more than $200,000 a year than from families earning below the national median income of $53,000.

Kids in the former group would surely still be going to college, with or without a subsidy. So why not raise tuition at state college and ask students from middle- and high-income families to pay more? Higher education is a public good, but it’s a private good as well. Why should the daughter of an affluent lobbyist in Arlington, Va. attend the University of Virginia and pay heavily subsidized tuition of $13,200 when her family could easily pay two or three times that amount? Writing in 2011 on the joint blog he then ran with the late University of Chicago economist Gary Becker, law and economics pioneer Richard Posner said that “there is no case at all from an overall social standpoint for subsidizing students who would pay full college tuition, without the inducement of a subsidy … it is a windfall to their families.” For his part, Becker wrote, given that college graduates’ earnings are so much higher than those of the average taxpayer, “It is a questionable system of regressive taxation when taxes are spent on subsidizing individuals who will earn more than those paying the taxes.”

Some advocates of improving college access go further than calling for subsidies, instead promoting the notion of free college for all. They argue not only that universal subsidies will create incentives for broader college attendance, but also that universalism is a recipe for widespread political support. But this is a big mistake. We know from the experience of other countries that what appears to be an egalitarian policy may in fact have perverse consequences. With free tuition-which Germany just reintroduced, and many other countries have instituted-government funds become spread too thin. That reduces quality, and often limits capacity. As a result, well-off students, who tend to be better prepared academically, are more likely to get scarce spaces. Thus, intended beneficiaries from low-income backgrounds may not get postsecondary education at all. Call it the egalitarian tuition-subsidy paradox.

It’s worth noting that low state tuition policies are not the only college subsidies that disproportionately benefit the well-off. As journalist Jon Marcus notes, tuition tax credits, work-study aid, and tax-advantaged state college-savings plans all do little to help poor families pay for college. For instance, the Tax Policy Center finds that although just 20 percent of U.S. households have annual earnings of more than $100,000, households in this income range received more than 50 percent of federal tax deductions for tuition, fees, and exemptions for dependent college students. Similarly, low-income taxpayers are far less likely than their more affluent counterparts to participate in college-advantaged savings accounts. The households that participate in these plans, according to the U.S. Government Accountability Office, have a median income of $120,000.

None of this means that low-income students get no state subsidies for college — they do, of course, often receive significant financial aid. But college costs and living expenses remain a barrier for many of these students. Raising tuition at state institutions to the true cost of attendance would free up additional funds to make financial aid much more generous. This, in turn, would open the door to many policy changes that could improve access, retention, and graduation rates.

First, states could offset tuition hikes by increasing the size of direct grants to needy students. Research shows that $1000 in extra aid per student raises college enrollment rates by 3 to 6 percentage points. Increasing aid would also allow disadvantaged students to borrow less. That’s important, because even though there is a strong economic case for taking on debt to pay for college, given the high average returns to earning a degree, students from poor families are often debt-averse. They may hesitate to attend, or to persist, because of anxiety about taking on loans.

New funds from state tuition increases could also be spent on outreach to students from low-income families. Researchers have identified a range of new, inexpensive outreach measures that seem to be very effective. For example, a study by economists Carolyn Hoxby of Stanford University and Sarah Turner of the University of Virginia found that talented low-income students often don’t apply to selective colleges for which they would be qualified, and from which their chances of graduation would be much higher than at less-selective institutions. But when high-achieving students were provided with information about the application process and net costs after financial aid at these colleges, they applied to and were admitted to more colleges than those in a control group that didn’t receive the intervention. The intervention cost just $6 per student.

Another experiment, by Benjamin Castleman of the University of Virginia and Lindsay Page of the University of Pittsburgh, focused on a disadvantaged student population headed to much less selective colleges. In an effort to combat “summer melt” — the phenomenon whereby high school graduates who intend to go to college do not enroll in the fall — the researchers used personalized text messages to remind students of key deadlines and offer them access to counselors. The results were striking: student enrollment in the districts studies rose between 4 and 7 percentage points. Like the Hoxby and Turner study, the texting experiment was cheap: $7 per student.

Whichever route or routes policymakers take to improve postsecondary participation and success, using taxpayer dollars to advance this goal seems eminently more worthy than providing tuition breaks to large numbers of students who don’t need them. Inevitably, a policy change like this would be hugely controversial. Nevertheless, it would be the right thing to do.

The elimination of across-the-board tuition subsidies at state colleges, to be replaced by more generous financial assistance to low-income students, along with other new enrollment strategies for disadvantaged populations, may not lead to immediate and striking increases in economic growth. But how many policy changes do? If incremental, steady improvements in college attendance and graduation rates build human capital to meet fast-changing workforce needs, over time the benefits will be substantial for individuals and the economy. That would be a remarkably worthwhile outcome from rechanneling a single kind of misdirected subsidy.

The opinions expressed here are solely those of the author and do not necessarily reflect the views of the Cato Institute. This essay was prepared as part of a special Cato online forum on reviving economic growth.

Ben Wildavsky is director of higher education studies at the Rockefeller Institute of Government and policy professor at the University at Albany.