For-Profit Colleges and Universities--Posner's Comment

I agree with what Becker has written on this important subject. I want to approach the subject from a slightly different angle, however, which is to consider why higher education in the United States is dominated by public and nonprofit-private institutions (abroad, almost all education is government-operated) and what this implies about the reasons for the growth of the profit-making institutions. A nonprofit enterprise is one that (1) enjoys an exemption from taxation and (2) operates under a nondistribution constraint--that is, any surplus of revenues over expenses cannot be distributed as profits to the firm’s "owners." The points are related. To enjoy a charitable exemption from taxes, an institution must not only have a purpose deemed worthy (such as promoting education, health, religion, the arts, and so forth), but must also devote all its resources, including income on endowment, to its charitable purpose. The nondistribution constraint is indeed constraining, because it means that the institution cannot raise money in the equity markets. It can compete with profit-making competitors only if it can attract investment from donors. Generally, this requires that it have many affluent alumni, as they are the principal donors to colleges and universities (partly out of gratitude, partly for the less altruistic reason that they derive prestige from having attended a distinguished institution and they want to help it maintain its distinction). There is a chicken and egg problem. To attract children of well-to-do families, and other children who have good earning prospects, the school has to offer an attractive program, good living and athletic facilities, and a distinguished faculty, but all those things cost money, which is hard for a nonprofit institution to raise unless it already has wealthy alumni. This may be why the very successful nonprofit colleges and universities tend to be quite old. They have had a long time to "grow" alumni who make generous contributions. Brandeis University, founded in the 1940s, is one of the few prominent private universities that is not very old--and it has had great trouble building up an endowment (though in part this is because of the elimination of Jewish quotas at other prominent universities--those quotas were one of the major factors in the decision to create Brandeis). The result is a tendency for nonprofit colleges and universities to be quite expensive. Access to them by kids who are not well off and do not have good earnings prospect is further restricted by the practice of "legacy admissions," an important part of the fund-raising strategy of the classy nonprofit institutions. Public colleges and universities take up much of the slack by subsidizing tuition; there are also federal and state loan programs for college tuition. But tuition expense at public institutions has been rising, at the same time that these institutions have begun angling for more affluent students by becoming semi-private--sometimes more than semi: for example, the University of Michigan, though state-owned, now derives only about 10 percent of its revenue from the state. The rise of the profit-making college and university, described in Becker's post, can therefore be interpreted as a response to the increasing scarcity of places in nonprofit and public colleges and universities for students who for whatever reason do not have good prospects as high earners, which would make them attractive to and able to afford the tuition charged by the nonprofit and public institutions. Not being able to rely on future alumni donations from such students, the capital required for their education must be raised from nonaltruists, i.e., profit-making investors; hence the increasing adoption of the for-profit form. Nonprofit institutions catering to the low end of the market have also emerged in recent years, but they may be at a competitive disadvantage vis-à-vis profit-making firms, as they may find it difficult to raise capital without an alumni base. Is fraud and other malfeasance more likely in the new profit-making institutions? I think so, for two reasons. First, the consumers served by these institutions are less sophisticated than the consumers (the students and their families) of the educational services provided by the established institutions. Second, established institutions have more “reputation capital” at stake than a new enterprise; hence fraud or other misconduct is more costly to them and so they make greater efforts to prevent it. This has nothing to do with any differences in "greed" across different organizational forms, but merely with differences in the cost of engaging in misconduct, which is greater for the nonprofit and public institutions because of their clientele and reputation. But reputation capital is as important to established profit-making institutions, such as the University of Phoenix, as to nonprofit ones. However, the the rapid growth in the number of profit-making colleges and universities means that a disproportionate number of these institutions are new and therefore not yet established, and that would suggest that fraud may indeed be on the increase, as the New York authorities believe. Even so, that is no reason to shut down the profit-making educational sector, which may have discovered a demand for college education that the nonprofits had overlooked. Given the private as well as social return to higher education, the contribution of for-profit colleges and universities should not be disparaged.

Comments

[Joe Merchant]

I attended and T/A'ed (teaching assistant) at a private university which shall remain nameless here - after all, my degree is from this fine institution.

When the students in my senior level lab course were unable to demonstrate any understanding of the subject matter, I was giving them failing grades. My advisor - who was not so great at expressing himself in english - put it to me simply: "these are paying customers, as long as they show up to class they must get at least a C."

[Corey]

"First, the consumers served by these institutions are less sophisticated than the consumers (the students and their families) of the educational services provided by the established institutions."

Everyone I know at the various for-profit
"online" universities is taking the classes part time as a hedge on the various threats to their livelihood from outsourcing, mass layoffs, union-busting, or pay cuts. They are going back for MBAs or certificates or second bachelors because their career plan was mooted by technology, globalization, and the resurgence of Lochnerism.

You can say a lot of things about these people, but they are not "unsophisticated" relative to high school students who pick schools via US News rankings. They are often mid-career, professional, and taking classes while simultaneously working and raising families.

One person I know is taking online classes at night after work and has his first child at an excellent (and expensive) traditional university. He switched for-profit schools once already because the program did not meet his expectations.

Fraud is certainly a concern but the students will see it and set a market. (To use the argumentation so often employed here.) I think that places like Phoenix have more incentive to provide quality educational experiences to their students than do places like Harvard that can't seem to escape their good reputation. Anyone who has spent time within earshot of Harvard Yard can attest that the undergraduates there are usually bitterly unhappy with their experience.

Whether or not these for-profit schools and online degree programs will bring economic benefits to the people in them depends largely on whether employers and coworkers who are graduates of traditional schools accept their validity. I agree with Posner that these schools should not be disparaged.

[David]

Interestingly, neither Posner nor Becker discuss the exact type of fraud that is occurring at these for-profit "colleges." Essentially, many of them enroll students who have no hope of graduating, often without verifying that they have high school degrees. These students are largely low-income and are eligible for state and/or federal grants. The colleges accept these grants in lieu of tuition. So, basically, many of these for-profit colleges are a racket to defraud the gov't: they take the state aid and do nothing to help the students.

This is not to say that all for-profit colleges are bad. But given the pervasiveness of the racket, one can understand NY State's decision to put a moratorium on new for-profit colleges (existing ones are not banned). Perhaps better fraud prevention and enforcement is the long-term solution, but until these mechanisms are in place, it seems reasonable to protect NY taxpayers from this pervasive fraud.

An alternate proposal might be, simply, to not offer state aid to students at for-profit colleges unless the students meet minimum eligibility requirements and the colleges have met rigorous acceditation standards. If the state money dries up, the fraudulent "colleges" will go away.

[Jane]

"Fraud is certainly a concern but the students will see it and set a market. (To use the argumentation so often employed here.) I think that places like Phoenix have more incentive to provide quality educational experiences to their students than do places like Harvard that can't seem to escape their good reputation. Anyone who has spent time within earshot of Harvard Yard can attest that the undergraduates there are usually bitterly unhappy with their experience."

I object that "places like Phoenix have more incentive to provide quality educational experiences to their students than do places like Harvard". First, universities like Harvard compete fiercely for their students. Many of the students Harvard admits also get into other prestigious colleges like Yale, Stanford, Princeton, etc. Sure, Harvard has a great reputation, but it also has many competitors that are trying to attract the same students. This is why these colleges spend a lot of money to attract the best faculty and provide cutting edge facilities.

Second, though minor point, is that Harvard undergraduates are not "bitterly unhappy with their experiences". How do I know? Personal experience. ;)

[Anonymous]

Interesting article about recruitment practices at the University of Phoenix:

http://www.azcentral.com/families/education/articles/0914apollo14.html

[N.E.Hatfield]

What's wrong with for profit education? It's as American as apple pie. The majority of the first schools in North America were based on this. In fact, operated by intinerant schoolmasters. Many from the eastern establishments like Harvard or Yale. That is, until Horace Mann came along and developed the idea of universal PUBLIC education. Then came the development of the Normal Schools and the public Land Grant Colleges in the late nineteenth century. And as they say the rest is history.

Perhaps ole Horace Mann is grinning from ear to ear.

[Arun Khanna]

How about examining this issue from the employer's perspective? If for-profit universities are uncompetitive, it should show up in the labor market for their graduates.

[Allan Tulchin]

I agree with Posner's less-rosy views. In response to Joe Merchant, just because "everyone [you] know" who's taking a class is sophisticated doesn't mean the average student at a for-profit place is. The National Center for Educational Statistics puts it this way: "Research on loan default identifies at least four risk factors associated with higher default levels ... These factors include students who (1) are black, (2) are independent, (3) are from low-income families, and (4) do not have traditional high school diplomas. Of borrowers at less-than-4-year, for-profit institutions in 1995-96, 17 percent had none of these risk factors, 33 percent had one, 30 percent had two, 17 percent had three, and 3 percent had all four risk factors. These students were more likely to have had a greater number of loan default risk factors than borrowers at other less-than-4-year institutions. Fifty percent of borrowers at less-than-4-year, for-profit institutions had two or more default risk factors, compared to 35 percent of borrowers at other less-than-4-year institutions. The percentages of students with no risk factors were 17 percent and 30 percent, respectively." (see http://nces.ed.gov/programs/quarterly/vol_2/2_1/q5-2.asp)
The percentage of defaults at for-profits is higher than at non-profits, as others have noted. Furthermore, it's not (just) the 18-year-olds who are picking Harvard -- after all, their parents are paying for it. Broadly, I worry, like Posner, about schools that only serve the lower reaches of the market. But I also wonder -- shouldn't we also be asking our elected officials to consider reforms in our public educational institutions so that those students will be better served? Perhaps our public institutions can learn something from the for-profit competition.

[N.E.Hatfield]

As a would be employer, I don't care where the knowledge base comes from. Be it from a private, public, for profit institution or from life experience itself. The only concern I would have are they competent, effective, efficient, and capable of getting the job done. And as for credit worthiness, perhaps that ought to be the sole criteria for receiving an education. It would certainly cut down on the number of students and eliminate market saturation.

[albatross]

Part of the information you get from someone having a college degree is about whether they were able to get into that college: Did they have a combination of test scores (reflecting intelligence and knowledge they retained from school) and grades (reflecting persistence and good study habits, as well as intelligence and knowledge) good enough to get in?

Another part of the information you get is from their graduating, which implies that they probably showed up to most of their classes, did most of their assignments with some level of planning and competence, and were generally able to hold it together out of sight of their parents for four+ years.

The information you get from a night-school diploma from University of Phoenix is different from the information you get from an equivalent degree from a state university. On one side, this person probably didn't have such good test scores or grades (so they probably have a lower IQ on average). On the other side, if they managed the night school degree while working full time, that tells you a lot about their persistence and work habits and ability to organize their lives.

[Dude]

A friend of mine developed a new program within a business school at a large, private, non-profit university. The only way to keep the program going was to demonstrate substantial sustainable profits. They were faced with the same set of issues as for-profit schools, and (after my friend quit in disgust) they lowered requirements and watered down the curriculum to fill their classes with as many warm bodies as possible.

Seriously, what is UofChicago's executive MBA program? It's a lucrative for-profit money maker for the business school and the university.

[Patrick R. Sullivan]

Anyone who thinks there isn't fraud perpetrated at traditional universities is being naive. And it's not confined to the obvious political hustlers.

I know a young girl who will graduate (at 21) this spring with a business degree from Kaplan (online) University. She dropped the Univ of Washington after two quarters, because she was being taught statistics and economics by foreign grad students who barely spoke English.

She likes Kaplan so much she's changed her mind about getting a graduate degree. Now she wants to.

[Yong]

ÔøΩIs fraud and other malfeasance more likely in the new profit-making institutions? I think so, for two reasons. ÔøΩÔøΩ Second, established institutions have more reputation capital at stake than a new enterprise; hence fraud or other misconduct is more costly to them and so they make greater efforts to prevent it.ÔøΩ

This view of Judge Posner seems to me to be overly simplistic. Established institutions at the same time are 1) more motivated to engage in fraud of a much bigger scale, 2) more motivated to conceal such fraud, and 3) have more resources to conceal the fraud. Take the two recent cases of fraud in scientific research for example. Hwang Woo-Suk fabricated patient-specific embryonic stem cells at the National Seoul University, the most prestigious institution in Korea and one of the best in the Far East. Hendrick Schon fabricated molecular superconductivity at Bell Labs, one of the best research laboratories in the physical sciences in the United States. In both cases millions of dollars of public money were involved and both Hwang and Schon were suggested as potential Nobel prize winners for their now fully discredited and fraudulent research. And in both cases, when allegations of fraud were made initially, the institutions mounted ferocious publicity campaigns to defend the research. It really does not matter whether the institute is for-profit or not-for-profit because they pay or do not pay taxes. The individuals are driven to engage in fraud for their personal gains. The Ken Lays of established institutions will not bother to steal a few pounds of shrimp. Fraud of a certain scale may be more easily detected if it occurs in a less resourceful institution such as the University of Phoenix than if it occurs in an established institution like Harvard. Fraud at established institutions may be much more widespread because so much is at stake and they are so determined that such fraud not get disclosed.

[Richard Mason]

RP: To attract children of well-to-do families, and other children who have good earning prospects, the school has to offer an attractive program, good living and athletic facilities, and a distinguished faculty, but all those things cost money, which is hard for a nonprofit institution to raise unless it already has wealthy alumni.

Note, however, that there seems to be no difficulty establishing private non-profit churches, even ones which cater to less-than-affluent people. They may not have the capital for cathedrals at their inception, but they can begin with modest facilities and upgrade if and when their fortunes improve.

The most probable explanatory difference I can think of is that in the last century or so, private colleges have had state-sponsored competitors, but churches have not.

[N.E.Hatfield]

Perhaps the following question may shed some light on the subject of "education". That is, requiring individuals, i.e. students, to attend school is really not so much an effort to educate, but to decrease the potentially available labor pool and the attendant problems of unemployment? ;)

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