By many indicators, American higher education is in its Golden Age. Enrollments are at an all-time high. American universities are the best in the world, and thousands of foreigners flock to them annually. The proportion of the young adult population with college educations is far greater than in most other advanced industrial democracies. Financial support for our institutions of higher education is likewise at a record level, and the number of schools in deep financial difficulty is lower than it has been in most past years. Individuals working or trained at American universities dominate the annual list of Nobel Prize winners.1 

In spite of all this, there is reason to believe that most American colleges and universities are soon going to face a significant challenge driven by economic imperatives. It is my thesis that the "restructuring" that has led American business to become more competitive and more recently forced wrenching changes in the forms of health care delivery may soon hit higher education. Leaders of educational institutions should prepare for possible radical changes in the way that they perform their multiple missions.

The underlying problem, I would argue, is that American education suffers from two causes of economic inefficiency: third party payments and a lack of profit motive, the same deficiencies that have contributed to the well publicized difficulties with our healthcare system. In addition, there are other factors unique to higher education that have aggravated the problem, including the pursuit of questionable research agendas or the taking of ideological positions inconsistent with continued high levels of public subsidies. An adroit use of price discrimination and favorable trends in labor markets to this point have largely shielded colleges and universities from problems associated with economic inefficiency, but this likely will change at some point. 

Trends in the Economics of Higher Education

Over time, the absolute amount of real resources expended by American higher education has grown substantially; similarly, on a cost per student basis, costs have risen substantially, even allowing for inflation (see Figures 1 and 2).2 Real spending in 2000 dollars rose nearly six-fold, from $46.5 billion in 1960 to $269.8 billion.