Ronan Lyons | Personal Website
Ronan Lyons | Personal Website

The tuition fees debate: a debt-for-equity suggestion

On Tuesday last week, Oxford University’s governing body – the Congregation – overwhelmingly backed a motion condemning the UK Government’s policy on higher education. The vote, 283 to 5, was interpreted as a “powerful symbolic blow” to Universities Minister David Willetts by the BBC.

For those unfamiliar with the context, last November, the new UK government announced its plans to reform how higher education in England and Wales is funded. A report from a group set up under the outgoing Labour government recommended abolishing a cap on fees entirely. The new Government, however, increased the ceiling for tuition fees from 2012 on from £3,300 to £6,000 and up to £9,000 “in exceptional cases”. (The phrase ‘exceptional circumstances’ effectively means that a particular university must use the extra money to widen access beyond “white middle-class teenagers”, as the Guardian puts it.)

The key feature stressed by the Government was that no-one would have to pay back until they started earning more than £21,000 a year. For reference, the typical worker in the UK earns £18,500 and if you earn £30,000, you’re in the top quarter of earners.

“Lobby group objects to funding cut”

Unsurprisingly, though, this was not a popular decision among students. “Lobby group happy with having funding cut” is a headline that is rarely seen. Perhaps equally unsurprisingly, most universities in England and Wales will indeed be looking to charge the maximum £9,000 off at least some of their students. The graph below shows the maximum fee to be charged by almost one hundred universities in England and Wales. They are sorted by the Guardian’s 2012 ranking and show a remarkable degree of homogeneity: only two of the top 40 universities by this ranking won’t be charging the full £9,000, while only two of the entire group will charge less than £8,000 at the top.

Tuition fees by UK university
Maximum tuition fees, 2012, by university (Guardian rankings)

While some will look at this and shout collusion, a moment’s thought should reveal that this just doesn’t stack up. Only 10 of the lowest 25 ranking universities are charging the maximum, so clearly, prices are being used a selling point. However, it is significant that once the “£9,000 seal” was broken, it broke only to about £8,000.

It’s clear that a service as intensive in skilled labour as higher education is very expensive to provide. And it’s clear – from the actions of universities across England and Wales – that even £9,000 doesn’t cover the costs. Ultimately, the costs have to be borne, though. The only question is how.

Why both sides are wrong

“What’s wrong with the status quo?” current and soon-to-start students (and their parents) may ask. Unfortunately, if students themselves don’t pay for their education, then someone else has to. And in a country where only half of young people get a third-level qualification, that means that working class families have to pay for middle class and upper class kids to go to university. Surely, everyone will agree that this is not fair. With limits to the UK Government’s ability to spend, due to the necessity to close the deficit, it’s also not sustainable.

“What’s wrong with the proposed solution?” others may ask. The threshold for earnings is raised significantly, so access should indeed improve. At least on paper. And unfortunately, that’s where the problem lies: debt aversion. People don’t like making commitments about the future in an uncertain world. So even though the system is set up to be fairer, people actually think it’s more unfair. The focus is entirely on the headline £9,000 and the debt accrued, and not on the return that people get on education.

Indeed, this is a topic that has a much wider resonance than just higher education. Investor Bill Ackman summed up the Global Financial Crisis very neatly when he said: “There’s too much debt and not enough equity in the world.” If you give someone equity, it means you benefit and suffer along with them. If you give them debt, you’ll drive them to bankruptcy if you have to, to get your money back. If you sit back and think about it, this has been the root of a lot of the issues in the world economy over the past few years.

Replacing student debt with student equity

Can this type of reasoning be applied to higher education? Not only can it, it is actually being applied as we speak. A Colombian social enterprise called Lumni has helped almost 2,000 students go to university in Chile, Colombia, the U.S. and Mexico by offering them “human capital contracts”. How does it work? Effectively, Lumni provides you with the cash up front to attend college. In return, you promise to pay a certain percentage of your salary (say 15%) every month for ten years, once you start work after your degree. In corporate speak, “You, Inc.” has Lumni as shareholders, rather than a bank or the government as bondholders.

Because it’s a fraction of your income, whatever that income is, students are no longer worried about “debt burden” if they don’t get a good enough job after graduating. Instead, the question for the student is: “will I earn 15% more after I graduate than if I don’t go to college?” And the evidence says yes – research from the UK for people born in 1970 suggests that the premium for a good degree (a first or an upper second) is 22% for men and 25% for women.

By significantly raising the income threshold, and by tapering the interest rate, the Conservative-LibDem Government has already shown it is concerned about debt aversion. However, the general reaction suggests that there is considerable debt aversion based on headline fees.

The Government should consider, instead, a “debt-for-equity” swap: taking equity in students, rather than giving them debt. For someone who earns £25,000 coming out of university, an (arbitrarily chosen) 15% contribution for ten years would yield the Government £37,500 in real terms – more than £9,000 a year on a four-year programme. Meanwhile, the graduate enjoys a higher stream of income throughout their life, long after they’ve bought out the Government’s minority shareholding in them!

  • Dani ,

    Interesting suggestions. I would add that a chunk of the opposition in Oxford and beyond is to the idea of creating a market in higher education, and not just to an increase in fees, per se.

    Do such proposals include a floor and ceiling? That is to say, a small (but significant) number of graduates have very low earnings for a short time after they leave university, and a loss of 15% of earnings during that time would affect them more significantly than 15% when they are better off (i.e. if I earn only £100 per week, losing £15 is killer, whereas losing £75 a week out of £500 is more bearable). Similarly, it seems reasoanble to say that if someone contributes a huge amount (say £150,000) in returns, they should get to stop paying sooner.

    Separately, I can see many common features with a graduate tax – what makes it distinct from a grad tax?

    • Michael Taft ,

      Ronan – Dan has a point; your proposal is similar to a graduate tax but no less potentially helpful. Clearly, we are going to have to engage in an informed discussin on tuition fees. One question: applying an equity/grad tax regime on young people will hit them partiularly hard as (a) they are entering into a costly period of household formation (housing, children, etc) while (b) still only starting their long climb towards maximising their returns on education which only comes full in later years. Will this not hurt demand going forward and shift the burden from older to younger years? This is not an argument against such proposls as yours, only a consideration. If we could somehow shift the burden of repayment to later in the life cycle, this would be economically more beneficial (and socially more equitable) but unfortunately the time lag is too long for a return on costs. If only we had one of the those Star Trek-type time/life-cycle machines.

      All that said, an idea worth exploring.

      • Elwyn ,

        Interesting discussion. Professor Caroline Hoxby, an economist at Princeton, who gave the Clarendon Lectures in Oxford this year, argued that this is actually the way some private universities operate in the US. Students there often give back to their home universities and it turns out that in a period of 30 years time the university is earning back their investment in a student, just by these gifts. This is also an example of how these universities see the education of their students as an investment, and take a bit of equity in the success of students, even though in this case the contributions (or: dividend payments?) are voluntary, although there is a social norm that you should give back to your alma mater (which is almost absent in Europe).

        • Andrew ,

          Agree with the other comments. There’s a name for a government taking an equity stake in its citizens, and it’s called “income tax”. And then the time-limited graduate tax you propose is basically the same as the income-contingent debt proposal.

          The problem with all these policies is that, in money terms, they’re pretty similar. It’s only in perceptions that the distinctions matter, and that takes it out of the realm of economics and into the real of psychology or PR.

          • Raoul Philipse ,

            I agree with the above statements. My first additional note a bit off topic. You claim that the poor pay for the education of the rich. This is a widely held misconception in the UK. It is true that the UK tax gets pooled in one lump and then redistributed. In that way the poor are not only paying for the education of the rich, but also for the healthcare of the rich, their infrastructure , their culture, ect. A closer look reveals that as about the bottom 70-80% of people are net tax receivers, the poor actually pay nothing to the rich in tax. It is indeed the current rich that pay for the education of the future educated, the poor don’t enter into it (except that they might be the receivers of cheap education enabling social mobility).

            The second comment is that your scheme would transfer tax away from the current middle aged/old rich and to the current young (as normally the old pay for education via higher taxes on higher incomes, but now the young must pay for their own education when they are most vulnerable). Seems like a bad idea somehow.

            • Raoul Philipse ,

              Finally, a question we should be asking is: is giving subsidies to education a positive NPV project for the government and society?

              Aside from personal development mumbo jumbo rhetoric, the reason for education subsidies is that fewer people take eduction than would be optimal as the externalities of their increased productivity accrue mostly to the state and society. As the state captures about 30% of personal income and education provides a 22% increase in that, the state could ask itself if getting a 7% (22%) increase in tax over a persons lifetime outweighs the cost of providing free education. The answer is likely to be yes. Of course this calculation only goes up for the people who would not have gone into education if it were not for the subsidies. We did however leave out other benefits to sociaty via corporate tax, increased culture/morals ect. In total this is likely to state a strong case for education subsidies, preferably income dependent. The current actions by government are therefore likely to be Pareto inefficient and sure to switch payment burdens from the current old to the current young, increasing population ageing problems.

              • John Mack ,

                At first this sounded medieval to me. Then it sounded positive as I absorbed the details.

                But why must the government suddenly switch to equity financing? Why not encourage students to use private companies like Lumni as transitional/perhaps permanent step while policy is debated and discussed?

                The “unfairness” argument is dangerous. In the US the right wing consider it unfair that “their money” will be used for “Obamacare,” Social Security, Medicare, active environmental protection and other social benefits that they claim they do not need or want. This leads to a sour, bitter politics, with the right determined to pursue policies that will be economically unsound, all designed to punish individual “parasites” (but not subsidized companies such as oil companies). The left complains that their money is being used for military and war, but the left does not aggressively organize around this complaint.

                There needs to be a discussion of the “common good” as well as “fairness.” Isn’t it beneficial for the common good of the UK that it produce university graduates, and make education affordable for the talented from all classes? If uni education serves the common good, then taxes from all citizens should contribute to it as an important, beneficial public service. If you attempt to operate with an exclusive emphasis on fairness, then you may hear, as you do in the US, childless people claiming that they should not have to pay taxes for primary and secondary education.

                In governance you need to seek a balance between legitimate values, individual liberty balanced by social justice, for instance.

                • Greg Sadlier ,

                  Hi Ronan. Solid analysis as usual and an interesting proposal though, as others have noted, the equity proposal seems to differ little from a graduate tax (though I note that you mention the possibility of an eventual equity buy-out). You and others might be interested in research we (London Economics) undertook recently for million+ to investigate the merits or otherwise of a graduate tax in the UK as an alternative to the current reforms:

                  • ‘The tuition fees debate: | Machholz's Blog ,

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