Thursday, December 17, 2009

Government Intervention Distorts the Market, Permitting Economic Rent Seeking

by Daniel L. Bennett

I've managed to stir up a nice dialog with Ben Miller concerning the default rates of career college students. On Monday, Miller posted some excellent graphs depicting the newly released 3-year default rates by sector, which showed (as expected) that the for-profit sector has a disproportionately high share of defaulters.

I responded by highlighting the fact that the for-profit sector also enrolls a disproportionately high share of disadvantaged (low-income and minority) students -who are more likely to drop out or default regardless of institution attended- and suggesting that further research that investigates the outcomes of socioeconomically similar students at various types of institutions is needed to provide a correct diagnosis of the institutional effect of student loan defaults.

Miller replied this afternoon, denigrating my use of the term "market funded" (one that a remarkably well-intentioned, luminary education entrepreneur turned me on to) to describe the for-profit industry as semantics, stating that
Were Congress to pass a law tomorrow saying “no for-profit institution can access the federal student aid programs,” the sector would be largely bankrupt by the end of the workday. In that respect, for-profits are no more market-funded than your average community college.
I disagree slightly with Miller's assertion that for-profit institutions are not market funded in that they received their seed capital from private investors, whereas community colleges and public universities were funded directly from the public purse (in most cases). However, I agree with Miller that a significant portion of the for-profit sector would fold if Congress were to remove the sector from its dole; however, the same would hold true for all but the elite public research universities, (which would likely convert to private not-for-profit status and price most students out of the market) if Congress were to cut them off from federal student aid programs.

Therein lies the problem: our system of higher education is overly reliant on taxpayer money (notably student loans) and thus, has distorted the market by removing price consciousness from the decision making process. By making large loan sums available to all, it has exacerbated the rapid tuition inflation. This, in turn, has created an opportunity for private investors to enter the market and seek economic rent by pricing its product competitively, in compliance with existing regulation, and applying efficient business practices that reduce the cost of production. It is not uncommon of for-profit institutions to report 20 to 30 percent profit margins. Does this suggest that such schools are evil and need to be regulated out of business? No, it suggests that there are huge inefficiencies in the public sector that need to be reconciled in order to make college more affordable and accessible to all those who wish to seek a college education.

Increased government intervention via funding and regulation is not the antidote to higher ed's ailment of widespread inefficiency and rent-seeking. In fact, it may be a symptom. What's needed is the innovation that is the product of unadulterated entrepreneurship. This innovation is more often originating in the market driven sector, although I admit that there are some sour apples making the entire sector smell with their abusive recruiting tactics and seeming disregard for imposing exorbitant debt on students, due to the competitive nature of profit-seeking private enterprise. In time, the rotting apples will fall and the remaining tree will blossom into the envy of the orchard, if markets are permitted to work their magic. If not, then expect more of the same with the bad apples clinging on by adjusting to whatever new regulations emerge, financed by increasingly expensive tax burdens for all.

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