Oklahoma's highly profitable universities should be cutting, not raising, tuition

June 27, 2011

Before the Oklahoma higher-education regents voted to raise tuition last week, I wish they would have considered a new report by Vance Fried, Riata Professor of Entrepreneurship at Oklahoma State University.

Dr. Fried, who was formerly a private-practice attorney, an oil company executive, and an investment banker, says many state universities are (believe it or not) highly profitable. How can a nonprofit have profits? “Simply put, it happens when the revenue the nonprofit derives from providing a service exceeds the cost of providing that service.”

This might seem obvious, but it is often asssumed that putatively “nonprofit” schools, by virtue of their designation, never make a profit from providing a particular service. In addition, such schools never report that they have realized profits, even when the profits happen to be large. Why? Because profits are reported as expenses. Nonprofit schools take their profits from undergraduate edu¬cation (which is typically the main focus of policymakers who are seeking greater afford¬ability, access, etc.) in the form of spending on some combination of research, graduate education, low-demand majors, low faculty teaching loads, excess compensation, and featherbedding.

“The profligacy of nonprofit colleges is well known,” Fried adds. “As longtime Harvard president Derek Bok once quipped, ‘universities share one characteristic with compulsive gamblers and exiled royalty: there is never enough money to satisfy their desires.’”

Oklahomans will find that comparison particularly apt, given that our own species of exiled royalty—ex-politicians—often manage to find their way to a higher-education payroll. One former state legislator is earning a salary of $394,983 as Oklahoma’s higher-education chancellor. Another one is earning $215,000 as president of Rogers State University. Another one took a job earning $146,921 as an “assistant administrator” at the University of Oklahoma. Another one is—oh, heck with it, you can look this stuff up yourself.

Dr. Fried continues:

Thirty years ago, Howard R. Bowen, an economist and president of three different colleges, proposed what is known in educa¬tion circles as Bowen’s Law. It can be sum-marized as “colleges raise all the money they can, and spend all the money they can raise.” Bowen’s Law is well-accepted by scholars of higher education economics.

But don’t colleges try their best to keep costs low in order to keep tuition down? No! As Bowen points out: “The question of what ought higher edu¬cation to cost—what is the minimal amount needed to provide services of acceptable quality—does not enter the process except as it is imposed from the outside. The higher educational system itself provides no guidance of a kind that weighs costs and benefits in terms of the public interest. The duty of setting limits thus falls, by default, upon those who provide the money, mostly legislators and students and their families.”

Economist Robert E. Martin puts it this way: “As revenues increase, faculty, admin¬istrators, and board members extract more surplus from the cash flows in the form of higher costs and then use those higher costs as justification for more revenue. Imagine the consumer’s response if for-profit firms argued they had to raise prices because the surplus that they extracted during the last period (i.e., profit) increased.”

Outrageous, to be sure. It’s time for universities to cut costs—Dr. Fried shows how in another new report—and to cut tuition, not raise it.