What's Really at Stake in the Debate Over Financing Higher Education? (Part II)

it's all about whether students should pay, except i don't think the arguments for adopting a user-pays model over free university are particularly compelling

This is the second part of a two part series. Check out the first part if you missed it.

Part 1 - The Graduate Tax Challenge

Part 2 - What’s Really at Stake in the Debate Over Financing Higher Education? 👈 You are here

---

Last week I argued that the best versions of income-contingent loans (HECS), the graduate tax and ‘free university’ all converge to a significant degree and that there’s little to choose between them.¹ This week I’m going to provide my answer to my graduate tax challenge and tell you what I think the key difference between these approaches really is. In short, it’s the extent to which any given model adopts the ‘user-pays’ pricing approach.

Each system presents different answers to the question “Who should pay for university?”. HECS advocates will tell you that students should pay up to a certain amount and they don’t need to pay if they’re earning below a certain income. It’s a user-pays system where students are expected to make some contribution to the cost of their own degree(s) if they’re able to.

A graduate tax would work in a very similar way, except in addition to being a user-pays system it would be more like a ‘pay-it-forward’ system. Very high-earning graduates would end up paying more than the cost of their own degree(s) over time. A neurosurgeon earning $600,000 per year would be paying $6,000 per year under a 1% graduate tax. If we assume that their income remains the same over 20 years then that means they would pay $120,000 in graduate tax alone over those years. That’s significantly more than the Commonwealth Supported Place student contribution amount mandated in Australia today, which is only $12,720.

‘Free university’, a system where higher education is fully subsidised by the state and no fees or taxes are levied against students qua students, would not be a user-pays system. Students would not be expected to make any special contribution towards the cost of their own degree(s) or the degree(s) of others. Higher education would be funded entirely through government spending and hence via taxes that don’t target students or graduates specifically.

So what’s to choose between a user-pays system (HECS), a pay-it-forward system (graduate tax) and a system funded entirely by the state (free university)? There are four kinds of arguments that people usually levy in favour of the first two approaches: 1. Equity arguments, 2. Efficiency arguments, 3. Moral arguments and 4. Second-Best arguments. I’ll briefly outline all four and explain why I don’t find any of them particularly convincing. Then I’ll present the case for making university courses free.

Equity Arguments

One of the most common things you’ll hear is that HECS or a graduate tax system is justified on equity grounds. University graduates tend to earn more money than non-graduates, so it’s progressive to bump up their effective marginal tax rate once they start earning a reasonable income. On these grounds, a graduate tax would be more equitable than income-contingent loans because graduates with very high incomes would end up paying a lot more in the long run, instead of just paying back a debt.

The problem with this line of argument is that there is no purely distributive reason why university graduates should incur a higher effective tax rate than high-earning non-graduates. We already have a means of making high-income earners pay more than low-income earners. It’s called progressive income tax. Equity arguments alone cannot justify charging students and graduates more than non-students and non-graduates earning the same income. It’s true that funding higher education through general revenue would still be ‘regressive spending’, but as David Sligar often points out, what matters is the progressivity of the tax-transfer system as a whole rather than the progressivity of individual taxes and individual spending policies.

The equity argument struggles to get off the ground in Australia these days anyway because the relative wage increases one can expect from going to university are small compared to other OECD nations. If you want a higher progressive income tax, then just advocate for that instead.

Efficiency Arguments

Another argument is that making students pay for some part of their degree, when they can afford to do so, is efficient. It creates a price mechanism that facilitates competition, discourages overutilisation (students spending too much time at university and completing degrees more out of intellectual curiosity than a desire to start their career) and allows producers/consumers to make efficient decisions.

The efficiency arguments are in tension with another one of the supposed virtues of a deferred user-pays or pay-it-forward system: the fact that it insulates student course choice from cost and doesn’t have a big impact on demand. This is different from a laissez-faire free market approach where students might bear high upfront costs or start paying back private loans with high interest rates at very low income levels.

Student contributions have very little impact on course choices for fairly straightforward reasons. If you’re passionate about studying the arts but an arts degree at your preferred university is really expensive, then that might discourage you from starting an arts degree at that university. Maybe. But since you only have to start paying back your loan/tax after you’re finished studying and earning above a certain income it’s not actually going to have much of an impact on your decision. The theory makes sense and the empirical evidence suggests that the theory is right – a working paper from the Melbourne Institute found that discrete changes to university fees done explicitly to send a price signal to encourage students to study certain topics over others only caused 1.52% of students to demand courses that they wouldn’t have under the previous fee structure. Students really will just study whatever they’re interested in, regardless of the price.

Moral Arguments

Another line of reasoning in favour of user-pays or pay-it-forward is that it’s fair or moral to make students pay back into the education system that they utilised. The thought is free university would be unfair to non-students and non-graduates who don’t see any direct personal benefit from the higher education system.

Nicholas Barr, an advocate of using income-contingent loans to finance higher education, argues that the moral case for HECS beats the moral case for a graduate tax. According to him, students should pay (part of) the cost of their degree if they can afford it but they should not be required to pay any more than that. He argues that it’s unfair to make Mick Jagger, who studied finance and accounting at the London School of Economics, pay several magnitudes more than the cost of his studies in a graduate tax. Jagger’s wealth has little to do with what he learnt at university, so Barr thinks it would be wrong to make him pay some percentage of his income forever. But on the other hand, he thinks it would be perfectly fine to make him contribute to the cost of his own degree. If it’s your education then it’s only fair for you to pay for some of it in the long run.

But the amount that HECS, in both its current form and its ideal form, requires students to pay back is already pretty arbitrary. Much of the cost is already subsidised by the state and domestic students only pay back some nominal amount which may or may not reflect the actual costs of their courses. HECS advocates like to justify this by saying that higher education has both a private benefit (it benefits the individual student) and a public benefit (an educated population is good for the economy, culture etc.) so it’s fair to expect students to pay for the private benefit and the state to pay for the public benefit. I don’t know how exactly we’re meant to quantify and distinguish between the private and public benefits, but okay.

Matt Bruenig makes a sort of combined equity/moral argument for a graduate tax system by claiming that free university would be unfair to non-students and non-graduates while being more internally equitable than HECS. The graduate tax system that he advocates for is a closed-ended one, so it doesn’t run into the objection that the student contribution is only partial and arbitrary. But ultimately it’s not clear to me why these arguments apply to higher education specifically and not other areas, like primary and secondary education or childcare. More specifically, I just don’t see what’s supposed to be compelling about these arguments from fairness. I need to know more about why it’s fair to require students to pay qua their status as students and why it’s unfair for non-graduates to pay via higher taxes more generally.

Second-Best Arguments

I suppose the most compelling argument in favour of HECS or a graduate tax as opposed to free university is that they’re useful, politically feasible ways to inject more money into the university sector. You don’t have to raise taxes in general and try to convince the public that it’s a good idea. Instead, you can just use students and graduates as a source of funding, which is easier to justify because you only have to fight students and their political allies. Increased funding makes it possible to expand access to universities and facilitate more students, which tends to benefit potential students from lower-income families that otherwise wouldn’t have been able to attend university.

And that’s fine, I guess. It works, although it can create a path dependency problem where higher fees and lower repayment/graduate tax thresholds become the default method to increase funding. Governments certainly could make universities free and fund teaching properly if they really wanted to.

The Case for Free University

In responding to the equity argument I pointed out that there’s no purely distributive reason to charge high-earning university graduates instead of high-earners in general. So there’s a straightforward equity argument for making our income tax system more progressive and pairing that alongside the reintroduction of a free university system.

Matt Bruenig points out how, like other individually regressive spending policies, free university could be pursued as part of the Matthew Strategy, although he disagrees with the approach in this case. The idea is that you can secure more social buy-in to public services and the tax-transfer system. When a university graduate starts earning loads of money working as a neurosurgeon we can say “Hey, you went to university for free, so you owe a debt to society that means you should be paying your fair share of tax.” You sometimes see this kind of thing when people talk about Australian politicians and commentators who went to university back when it was free. If students and graduates have to pay back a loan or a graduate tax, then that’s their only obligation, but if they went to university for free then we have a good reason to demand that they buy into public services and the welfare state more generally.

There’s a slightly more unusual argument for making university free that you don’t tend to see from free university people because it sounds a little technocratic and ‘neoliberal’. Likewise, you don’t see it from the technocrats and neoliberals because they really like the HECS system. The argument is that a user-pays or pay-it-forward system functions as a narrow higher income tax, temporary or permanent, on highly productive members of society who decide to upskill through the higher education system. That’s a suboptimal tax. What we should do instead is broaden the base by charging non-students too. The first principle of social democratic tax design is MOAR.

It’s Whatever

As I said last week, there’s honestly not much to choose between the ideal forms of all three systems. Even ‘free university’ systems tend to involve some kind of small nominal fee (for textbooks or amenities etc.) that can be deferred. And this really isn’t an issue that governments should prioritise, it just gets a lot of attention because people on the left are disproportionately self-interested university students and graduates. So I guess my conclusion is “The case for adopting a user-pays or pay-it-forward over free university isn’t particularly strong, but also it’s all a bit whatever.”

1. Like in Part 1 I’m just going to refer to income-contingent loans (administered by the government) as HECS with apologies to non-Australian readers.