Are university degrees a Veblen good?

SC06 2006 Rolls-Royce PhantomA general election is coming, in May 2015. The political parties will be aiming to put out policies for university education in the run-up to the general election. Labour seem to be going for reducing fees from £9,000 to £6,000. The Conservatives, as a matter of principle, like both free-market competition and low taxes. But here these two, competition and spending less taxpayers’ money, may contradict each other.

Naively, you might think that a free market drives down prices. And it often has that effect. For example, flights from London and New York at less popular times of the year can be cheap. If one airline puts its prices up then people will simply fly on other airlines and it will lose money. This puts pressure on the airlines to keep fares low.

But economists have found that sometimes free market competition can drive prices up not down. It does so for what are called Veblen goods. A Veblen good is essentially something that appears more desirable the more expensive it is. Typical examples are luxury goods like fancy cars and watches. People don’t want a Rolls-Royce car or a Rolex watch to be cheap, part of their attraction is that they are expensive.

Similarly, a bride may hope to receive only one wedding ring in her life, and she would prefer it not to be cheap. Students also only do one undergraduate degree, and the evidence from the USA, is that mostly do not favour cheap degrees. So, perhaps a bit surprisingly degrees may be a Veblen good. There is a pretty free market for private university education in the USA..

If you don’t believe me that free market competition can contribute to high fees, then you can look at Harvard’s webpage on fees. You will see that for the academic year 2014/2015, the fee is $44,000, or about £26,500 at the current exchange rate. This is a whisker below three times the current fee English students pay. As a prestigious private American University Harvard is competing with universities like Princeton, $42,000 (£25,000), and Stanford, $44200 (£26,700). No obvious sign of competition driving down fees there.

I don’t know what will be in the Conservative party manifesto for 2015, but it will be interesting to see if and how this problem is addressed. The problem is that if they try to increase competition by removing the £9,000 cap, this will increase the cost to taxpayers. As students pay nothing upfront, the upfront cost is borne by taxpayers, and so the higher the fee the more the taxpayer pays.

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