The HigherEd Bubble Part 2: Is It a Bubble?
by azmanam on Nov 29 2011 (3926 Views)The views expressed this week are those of this author only. They are not necessarily the views of the author's employer nor any other author at Chemistry-Blog.com.
An economic bubble is a market with inflated value. Something is overvalued and conventional wisdom says the value of that good will continue to rise. Remember the dot-com boom and crash around 2000? In the late 90s, all you needed was a start-up internet company and you were guaranteed to make it, right? Tech stocks soared. But then the economy began to turn, Microsoft was declared a monopoly, and people realized the guaranteed rate of return wasn’t so great.
Buyers bought an asset they thought would appreciate and make them rich in the future when they sold that asset. The increased demand caused the price to rise, which proved to people the value would indeed rise. What could go wrong? It’s only an asset irrationally and artificially overvalued.
More recently, the US housing market was a bubble which dramatically burst. For an entire generation, it was assumed you could purchase a house as a sound investment in your future. The house would always be worth more when you were ready to sell it than when you purchased it. While this does have a modicum of truth, the ‘truth’ got stretched to unhealthy levels.
Conventional wisdom said you have to take out a mortgage to purchase the house, and that it’s ok to leverage yourself into a larger home than you can really afford. It’ll appreciate and you’ll make your money back. In fact… since you know the house will increase in value, go ahead and take a cash-out re-fi. In fact… make it a balloon payment, adjustable, interest-only loan! You’ll sell or cash-out re-fi again before the mortgage adjusts! As homes did rise in value, all homes become more expensive. And cheap and available credit only encouraged more consumption. Then the bubble burst, home values plummeted, and the market crashed, as we are all only too painfully aware.
So what does this have to do with higher education?
Some people are sensing parallels between the housing market of the mid 2000s and the higher education market today. Investing in one’s education is insurance and security for the future. As Sarah Lacy at TechCrunch says about higher education there is “a core national belief that no matter what happens in the world, [higher education is] the best investment you could make.” PayPal founder and bubble-predictor Peter Thiel talks about “consumption masquerading as investment” under the guise of “being frugal” to ensure prosperous retirement. Some have asked if this leads to an entitlement mentality. Just as sub-prime mortgages allowed consumers to over-leverage themselves as the cost of homes increased, readily available student loans allow students to over-leverage themselves into their degrees as institutions continually raise tuitions.
What caused the dot-com and housing bubbles to collapse (well, one of the reasons) was the rate of return on these “investments” stopped being actualized. Additionally, the soundness of the mortgage industry became undermined as people defaulted on mortgages which never should have been written. This is where the parallel is either valid or it’s not. This is where higher education either is a bubble or isn’t. Student loan debt is supposed to be ‘good debt’ right? (??) Will the same thing happen to the higher education industry (has it already started happening)? If yes, higher education is probably a bubble. If no, then higher education is not a bubble.
Is the “investment” in higher education failing to pay off like it’s “supposed to?” As one Chronicle commentary said, “Parents who are questioning if it’s worth financing at $1,000 per square foot are questioning if it’s worth it to finance $1,000 per week for a degree.” As some college students make poor choices in the type of education they get and the amount of debt they accrue (like some home owners made poor choices in the size of the home they bought and the kind of mortgage they took out), and as those same students have increasingly more trouble finding jobs sufficient to pay back their loans in a sane amount of time, students are in real danger of defaulting on their obligations to their institutions.
In order for the asset to appreciate, you need to be able to become gainfully employed in your field of study in short order after graduation. As we saw yesterday, the cost of getting an education is rising. Add that to the fact that we’re seeing a US unemployment rate for 25-34 year olds at 9.8% for October 2011. This leads to graduates not finding work and perhaps moving back home after graduation. Some are asking if higher education is really worth the price. Is the investment appreciating? And is the appreciation worth the cost of purchasing that investment?
Adding a wrinkle to this parallel, the asset you gain in higher education (your education) cannot be sold like a home. It can only be rented when someone hires you. Fortunately for students, one’s education is transferable. You don’t have to sell (or rent) your knowledge in the same market you bought it. So if we decide higher education is a bubble, perhaps the collapse of the market won’t be as quick or severe as the housing market.
Again, a bubble is when an asset is overvalued yet expected to increase in value indefinitely. So the question is: is higher education a bubble? I don’t claim to know the answer here. I’ll point out some observations others have made, and you’ll have to decide for yourself. We probably won’t know until the bubble does or doesn’t burst and we analyze the aftermath. If it is a bubble, we’ll then need to ask What would happen if the bubble bursts (Thursday)? And Is there anything that can be done to prevent this bubble from bursting (Friday)?
Here are some of the arguments critics are making to show higher education is indeed a bubble. 1) Higher prices for education does not necessarily equate to higher quality. Study after study has shown that essentially Americans are idiots on basic history skills among others. If consumers believe they’re not getting their money’s worth, demand will drop, the bubble will collapse, and the pricing model will have to change significantly.
2) Online learning is threatening to completely capsize the current model for providing higher education. iTunes U, MIT’s OpenCourseWare are good examples. Their on-the-face merits notwithstanding, for-profit universities offer degrees to just about anyone, just about anywhere. Some have questioned why students need to be pegged to one university at all. If the higher education model crashes, perhaps you’ll be able to pick and choose your courses from any institution – as long as you meet the course requirements for your home university.
3) Conventional wisdom says a college degree is essential and there is a real and purposeful push to increase the number of college graduates. Obama has made it a top education goal to dramatically increase American college attendance. This conscientious push to swell the number of college students reminds some economic critics of the phenomenon of everyone tossing their hat in the dot-com ring. Or the campaign to expand home ownership regardless of the sanity of the mortgage.
I really don’t know the answer to the question of whether or not higher education is a bubble. Several people sure think it is. I can certainly see the similarities between the mortgage crisis and the complacency with student loan debt. And once the consumer base figures out a market’s a bubble, it tends to burst. Once the optimism wanes and the consumers wise up to the mis-valued commodity, bubbles tend to burst. And some say this is already starting to happen in higher education.
I’ve mentioned the student loan debt in today’s. I have very strong feelings on this subject. In fact, I’m going to make student loan debt the sole subject of tomorrow's post. I hope you’ll join me.
Part 1: The State of Higher Education
Part 2: Is Higher Education a Bubble
Part 3: Student Loans
Part 4: What If the Bubble Pops?
Part 5: What Can We Do about It?
When people pay for tuition at a brick-and-mortar institution what exactly are they paying for? I can think of at least 4 things. 1) the education itself, the sum value of the knowledge and skills in the courses. 2) access to a pre-screened peer group with whom one can form lifelong relationships (including mates) 3) adventure - much like when goes on a vacation to a new destination, there will be a variety of interesting unexpected experiences and challenges. 4) sorting - to be part of a system that will provide rewards for high achievement (grades) that can be used as a basis for attaining further career goals, such as employment, and more school (potentially at a more prestigious institution). There's probably more. Online schools can provide 1 and 4, but not 2 and 3. And to many 18-year olds, 2 and 3 seem much more important.
Let's see, in my time at undergrad... #1, check - solidified my desire to pursue organic chemistry. #2, check - met my wife there. #3, check. Not through study abroad, but through being in the basketball band for a perennial sweet 16 (and one-time elite
team. We went to Philadelphia, Washington DC, Chicago, Orlando (and Disney), Nashville, San Antonio, Dallas, and Atlanta. And because it was with the basketball band, it was all paid for with a per diem 
As for #4, I could probably add a 6th entry on grade inflation... but I don't think I'm going to.
I would reword 4 to "access to highest bottom rung of career ladder." McKinsey and Company hires at Harvard and not elsewhere, and people want access to that.
The second that online schools quit relying on "college degrees are good for you!" and start relying on "our graduate owns this company and regularly hires our grads", I'll start taking them seriously.
This is a really interesting problem. There are classic clues that you are in a bubble -- every admin person I've ever spoken to at my institution and at others is acutely worried about how to pull in more money. I know that this is the case everywhere and not just in the academic world. But is it necessary here?
I have one major argument against the idea of an academic bubble. Most schools try to pull in more money to get the things that students (their customers) want. Incoming students want new gyms, nice building, strong staff, good sports teams, a beautiful campus and on and on. Whether they admit it or not, students need to be a little "wowed" when they come for their campus visit. You can't wow without $. I'm no economist, so I don't know what kind of theory covers this type of stuff. Perhaps its just simple supply and demand. Or, perhaps, because they are undergrads they will always demand more.
So, I really think that much of the cost increases can be linked to the demands of incoming students and the concern of the administration in attracting the best of those students.
I definitely agree that more money allows schools to purchase things students want. But are they things students need? Are the new amenities absolutely a necessary part of the degree? No. They're sure nice. I wouldn't want to have to wait to use an old crappy elliptical (...if I went to the gym...).
This disconnect is where the trouble begins. IS it really worth the price of education to get, essentially, a piece of paper. Students could get the same piece of paper without 120 HD cable channels.
I also don't know if the economic term for this is a bubble or not, though
I don't want to get too economically technical because (in the words of Coates, I have a bias towards trying to know what I'm talking about). And while I didn't stay at a Holiday Inn Express, I have been reading econ blogs for a long time:
But the definitions of bubbles usually have something to do with people driving up the prices of assets because of speculation that the asset price is increasing rather than the value of the asset is increasing. (I'm buying this house because it's going to double in sale price! vs. I'm buying this house because land is suddenly scarce!) Bubbles seem to always happen, even in completely artificial laboratory settings (e.g. college students in a room w/fake money over computers, etc.)
There's a recent Tyler Cowen e-book I've read and wanted to blog about called "The Great Stagnation." ($4/Amazon, btw. Quick read.) Part of his thesis is: "We thought we were richer than we were."
If I were to apply his thinking to education (which Cowen does, ably), I would say this: both institutions and students thought employment markets would be richer than they are. Students thought, "Hey, I'm going to be making $X/yr for now and $3X/yr later -- sure, I can borrow and pay off 2X in 10 years", while institutions thought "Hey, my grads are going to be making 2X/yr for the rest of their lives -- let's slice off a hunk of X for ourselves right now in tuition. They can always pay it off later."
Of course, then the student gets out and makes 0.5X. Hilarity ensues.
Is this a bubble? I don't know. But both institution and student thought that the underlying asset (the education/degree) was worth more than the current market value. They bought/sold on the assumption of increase.
Bubble? I comment, you decide.
I can't tell if you've reference to this Slate article by Annie Lowrie on the same topic
Is college a rotten investment?
But there are some interesting arguments in this piece against college ed being a "bubble"
Getting at part of what CJ is saying
Do I think an education at the Ohio State University can be as good as an education at Harvard? Of course I do. Do I think that students coming out of Harvard will do much better in the job market than tOSU? Absolutely. I also think that, given the current economic environment, schools are going to have to start plugging their recent graduates employment successes (as well as "success rates").
This is a really good article I hadn't come across (though she links to many of the other articles I read and referenced in this series).
I absolutely agree that this is the hinging point of this whole debate. Are the markets analogous or not? You can't 'flip' an education like you can 'flip' a house. (Or can you? Can you take an accelerated MBA or take a pay cut through a sabbatical and make a quick 'return' on that 'investment?')
Tell that to the cadre of unemployed PhD chemists writing in to CJ. If the market for your degree shrinks (or never existed to begin with), a degree is no insurance at all.
I think the main crux of the debate is the speculative aspect. Do all bubbles have to be based on speculation? Buying something with a low intrinsic value on the speculation that it can be sold at a higher market value (higher than its intrinsic value)? Do bubbles have to link a high market value to a lower intrinsic value?
Can you even 'speculate' on your degree? I'd say I did. I didn't plan on getting a PhD. (I told that story a while ago) I went to UNC so that I could boost my resume so that I could get hired by a major pharmaceutical company as a bench medicinal chemist. It was speculation that I could buy low and sell high (then I took out loans and threw off that analysis, but still).
I keep trying to write about this, but starting and stopping. I gotta think about this some more.