Tuesday, May 01, 2012

Do Subsidies Increase or Decrease Costs?

I guess this is debatable (who knew?). Federal college aid has risen 165% over the past decade, and college costs have risen about 74% over that same period. Yet some think that increased costs are from our stingy federal government.  For example, Jesse Jackson over at Huffpost notes:
College tuition is soaring because the state contribution to budgets is being slashed
Obama has a plan to increase aid in response. The Obama administration has already taken a series of steps to expand the availability of grants and loans and to make loans easier to pay back, proposed extending the tuition tax break and keep loan interest rates artificially low. Even Ron Paul is for specialized tax credits for college. It's hard to blame politicians for doing what sells. Paul Krugman tendentiously presents data for the idea that cost are rising because of of government cutbacks, ignoring the increasing irrelevancy of the full-tuition price and other issues, so it's possible to hold such beliefs by referencing properly credential authorities (as are most opinions).

When you subsidize something, you shift out demand which causes quantity and price to increase. It simply isn't true that prices rise due to smaller government subsidies.


elbowspeak said...

I'm no economist, but the graph here is pretty compelling: http://www.washington.edu/discover/budget
As state funding decreases, tuition goes up to cover the gap.

The salient points:
1990: Funding per student was $17,000– the state paid 82% and the student 18%
2013: Funding per student will be approximately $16,800– the state will pay 30% and the student 70%

How does this square with your argument?

Anonymous said...

I drink a shot every time you use the word "tendentious."

Joking aside, I agree with your point that at the margin increased federal college aid increases tuition. But as the first commenter points out, the magnitudes don't match up, and in any case it ignores the bigger issue, which is that governments spend much less on college education than they used to, and the consumer has picked up the tab.

Anonymous said...


The percentages and funding levels have literally no implications here.

The perentages: No matter what the effect of subsidies, if the government picks up 1% more, then the student will pay 1% less. This is just a tautology consistent with all models.

The funding levels: The size of the subsidy is not a variable which the model tries to forecast, so that can't be used to test the model either.

Ken said...

Does it matter whether the subsidy is through grants to the schools vs. individual loans/grants/tax credit?

It seems like state subsidies to the school shift the supply curve in, lowering P and increasing Q. On the other hand, individual loans/grants/tax credits shift the demand curve out, which increases price.

Perhaps we should swap all the individual grant money back to states for block grants.

elbowspeak said...

Notice that the 'costs' haven't gone up at all, just tuition. The interesting point about the "tautology" of the percentages is that the burden is being pushed from the state to the student. What Jesse Jackson said, I think, is borne by these flipped percentages.

You'd assume that overall cost would increase as the institution absorbed the subsidy commensurately, i.e. price of education increases. In the this case a price increase would be the institutional cost per student. But it hasn't. Why not?

Anonymous said...

+1 Ken
Gov't is subsidizing both the suppliers of education and the demanders.

Centurion 9.41 said...


Of course gov. subsidies increase cost.

However the real problem is not subsidies, they are merely the effect of the fundamental errors that create the issue.

The issue, society's conception of education and the role it plays, economically and socially, in society.

The vast majority of educational programs, in universities as well as education companies, sell two fundamental lies.

The first lie, the perversion of "training" into "education".

The second lie, that a degree program in which the "major" is an obscure area such as "the history of basket weaving" educates an individual.

Pre-internet a somewhat valid argument could be made for brick and mortar institutions to provide a very diverse spectrum of studies.

The result, thanks to gov. incentives, was the creation of various programs and companies [universities are now companies] selling the concept of education via marketing campaigns that target two fundamental natures of man; "intelligence" to the ego, and "economic security" to man's fear.

The tragic fact is that far too many "college educated" people can not write well, think critically, understand the basics of mathematics and hard science, and most importantly believe a historical narrative that is far more fiction than fact.

The only reason the incentive of "education as a solution" could be sold, was through perverting the difference between an education and training.

Funny how in today's world of information, medical doctors and education companies share the same trait of having virtually zero data available to the public that would allow one to decide if they succeed or fail to live up to their advertised benefit to the individual, or society.

Obviously these assertions lead to many other issues and questions. However what is often missed in discussing social issues is the truth that if the fundamentals are not agreed upon, all following discussion is not much different than the best definition of insanity.


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cig said...

@Ken, you are arguing that money is not fungible.

Give or take a bit of notional illusion, the core effect should be to shift one curve whichever way the subsidy is distributed.

I don't know how Eric came up with the conclusion it is the demand curve that is shifting -- he has not revealed his reasoning and just parachuted it in without explanation -- but I would think that it is the supply curve that moves. It's like technology: if the Widget industry finds a way to make Widgets more efficiently, it shifts the supply curve for widgets. If the education industry finds external sponsors to pay some of its costs in lieu of the customers, same. Otherwise, we quickly end up with the bizarre conclusion that millionaires making donations to their alma mater increases the cost of education.

Eric Falkenstein said...

Giving buyers vouchers or cut-rate loans for education shifts the demand curve outward.

cig said...

Whether vouchers are buyer vouchers or seller vouchers (e.g. matching funding) the net effect should be the same. Prices clear markets: if the cost of providing a service, plus equilibrium profits, adds up to $p, the market will keep the market price there. In the presence of vouchers worth $v to the supplier, it will take the cash price to $p-$v. I don't see how it changes the willingness to buy the service of buyers, for whom vouchers are an essentially worthless technicality. Therefore it seems to me it is clearly a supply curve shift.

Cut-rate loans "for education" may have a demand impact because they can be used to fund other things than education. Their effect is to increase the total credit available to people who happen to be students. But there's no reason to think the whole demand impact will be on education, indeed it seems to me it's more likely to shift the demand curve for all products that people who happen to be students consume, making the shift in the education curve alone a fraction of the net value of the loans. We can all agree it's a very poor way to encourage education.

Fab said...

Eric, your graph refutes you:
Pre subsidy, P=3, Q=30.
Post subsidy, P=4, Q=40, indeed. However, this is what the producer gets (including subsidy). The consumer only pays P'=2. That's what counts (to the consumer).

This holds, no matter whether the subsidy is paid to consumers or producers, and which of the two prices is quoted.
(The other effect, obviously, is more education being provided and consumed. Not a bad thing, either.)

Tel said...

Elbowspeak: take a closer look to the UW graph that you linked to. The purple line (tuition) has been rising in a smooth and steady fashion all the way back to 1990. However, the yellow line (govt funding) has a very significant knee around 2008 when the markets crashed. Also the total per student funding did increase up to $20 and only got knocked back down again in the last few years.

This points to a long term trend of pushing up tuition fees, regardless of whether the economy is in good times or bad... but in bad times loss of state funding makes a convenient distraction.

Tel said...

Errr: $20 => $20k

JWO said...

@cig but in this case the value of the thing bought goes down sharply if the suppliers produce more. If Harvard accepts more students the value of going to Harvard drops enough that Harvard sees it in their interest to keep enrollment down. Harvard has not increased its enrollment to even keep up with population growth let alone an additional amount for the fact that more people attend school longer.