Part 1
Costs and Productivity
in Higher Education

AS MY WIFE keeps reminding me, I have a Don Quixote–like
tendency to fl ail away at windmills—to take on topics such
as race in America and affirmative action; the insidious problems
with college sports at all levels, including Division III
and the Ivy League (which cause me to cringe whenever the
NCAA refers to its legions of "student-athletes"); and, yes,
the un forgiving economics of labor-intensive industries, such
as the performing arts and higher education. But, my DNA
is what it is, and so I am now adding to this list the potential
implications of online learning for college costs.
Context matters, and I will begin by outlining as succinctly
as I can aspects of the economics of higher education that are
relevant to my topic:
• trends in costs, the "cost disease," and how to think about
changes in productivity;
• other forces, some deeply ingrained in the fabric of higher
education, that also push up costs; and
• growing worries about affordability, especially in the public
sector, where reductions in public support have been
coupled with significant increases in tuition.
Then, in the second part of the book, I will discuss what I
think—or, better said, what I suspect—about the potential
impact of the variety of approaches to online learning that are
everywhere present, including, of course, at Stanford University
and at Stanford spin-offs such as Coursera and Udacity. Is
there, as President Hennessy has suggested, a tsunami of some
still ill-defined kind coming? Is it realistic to imagine that
online learning is a "fix" (at least in part) for the cost disease?
Throughout, I will maintain a system-wide perspective, since it
will not do to think about these large questions solely from the
perspective of individual institutions.

Cost Trends, the "Cost Disease," and
Productivity in Higher Education
It is fitting that I gave these Tanner Lectures in close proximity
to Clark Kerr's neighborhood, since it was President Kerr, in
his capacity as chairman of the Carnegie Commission on the
Future of Higher Education, who commissioned a study of
mine in the mid-1960s that became The Economics of the
Major Private Universities. In that study I documented the
seemingly inexorable tendency for institutional cost per student
(which is, of course, different from tuition charges) to rise
faster than costs in general over the long term. Kerr christened
this finding Bowen's Law, although he was, he said, "originally
skeptical about it."
What is important today is not the exact numbers contained
in that study (which were based largely on a detailed examination
of the experiences of the University of Chicago, Princeton
University, and Vanderbilt University between 1905 and 1966)
but the underlying pattern, which has been found to hold for
public as well as private universities, and for colleges too. I
reproduce here, as something of a historical relic, a figure from
my 1960s Carnegie study (figure 1). The figure shows that,
excepting war periods and the Great Depression, which require
separate analysis, cost per student rose appreciably faster than
an economy-wide index of costs in general. The consistency of
this pattern suggested to me then, as it does today, that we are
observing the effects of relationships that are deeply embedded
in the economic order.
Running through all the factors at play (and there are many,
as I will indicate shortly) is a key proposition that my teacher
and lifelong friend, William J. Baumol, and I first articulated in
our study of the performing arts, which also dates from the
mid-1960s. The proposition is known to this day in the literature
as the "cost disease." The basic idea is simple: in labor-intensive
industries such as the performing arts and education,
there is less opportunity than in other sectors to increase productivity
by, for example, substituting capital for labor. Yet
markets dictate that, over time, wages for comparably qualified
individuals have to increase at roughly the same rate in all
industries. As a result, unit labor costs must be expected to rise
faster in the performing arts and education than in the economy
Robert Frank of Cornell University provided this succinct
explanation of the cost disease as recently as March 2012:
"While productivity gains have made it possible to assemble
cars with only a tiny fraction of the labor that was once
required, it still takes four musicians nine minutes to perform
Beethoven's String Quartet No. 4 in C minor, just as it did in
the 19th century." In short, productivity gains are unlikely to
offset wage increases to anything like the same extent in the
arts or education as in manufacturing; hence, differential rates
of increase in costs are to be expected—a finding Baumol and I
reported for major orchestras at about the same time that my
Carnegie study of higher education was under way.
About a decade after the Carnegie study, I reported a similar
pattern in my 1976 President's Report at Princeton: "While
prices in general have risen about 50% [over the previous
10 years alone], the most widely used price index for higher
education has risen about 70%." And in 2012, three and a half
decades later, Sandy Baum, Charles Kurose, and Michael S.
McPherson reported basically the same pattern. In their paper
"An Overview of Higher Education," presented at Prince ton
University, they cite a careful study using data from the Delta
Cost Project that shows that "educational expenditures per FTE
student increased at an average annual rate of about 1%
beyond inflation at all types of public institutions from 2002 to
2008." There is no need to burden this argument with more
data about trends in institutional costs, which are notoriously
hard to interpret, in part because they often involve aggregations
of various kinds. It is easy to get mired in the underbrush,
and we do well to remember the admonition of the architect
Robert Venturi: "Don't let de-tails wag the dog."
There is, however, a final big point to note about trends—
namely, the reversal that has occurred in the last decade or so
in the respective positions of private and public institutions.
When I wrote my 1976 report, from the perspective of the
president of a private university, there was widespread concern
about the widening gap in charges between the privates and
the publics (with the privates becoming ever more expensive
relative to the publics). In those years, the privates were hit
especially hard by the stagflation of the time, with its dampening
effect on stock market values that, in turn, affected both
returns on endowments and private giving. Today, it is the publics
that have suffered more than most of the privates (and certainly
more than the most selective privates), largely as a result
of sharp cutbacks in state appropriations.
During a discussion session the day after I originally made
these remarks at Stanford, President Hennessy contrasted
trends in tuition and student aid in the public sector with the
recent experience at Stanford. He observed that while Stanford's
"sticker price" has continued to increase, as it has
throughout almost all of higher education, Stanford has had
the financial wherewithal to increase its outlays on student aid
by even more than the increases in its tuition and has chosen to
spend some part of its resources in this highly commendable
way. Only a small number of other wealthy private institutions
have been able to do the same thing, and the fortunate circumstances
of these relatively well-off "outlier" institutions should
not be allowed to obscure the general pattern pertinent to the
public colleges and universities tha