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24 October 2014

Does this university funding system unite free-marketeers and egalitarians?

A free-market graduate "tax" could be the solution to the university funding problem.

By Philip Booth

When it comes to paying for universities, supporters of a free market tend to favour undergraduates paying their own tuition fees or a system of government loans. Supporters of a more social democratic settlement tend to favour government funding or a graduate tax. The coalition government has managed to merge all these ideas together to create the worst of all possible systems.

The government is likely to see around 40 per cent of its loans not repaid. As such, the government is still providing a large – though arbitrary – subsidy to higher education and it therefore continues to bind universities up in red tape. Students are saddled with large amounts of debt and a completely incoherent repayment system which leads middle-earners to get a much worse deal than the very highest earners. At the same time, students don’t really know in advance how much they will pay for their course and so incentives to ensure that they choose the most appropriate style of course (right length, part-time or full-time, the right degree, and so on) are blunted. Probably the only thing that everybody is agreed upon is that the current system is a bad system. It does not work for universities, for the taxpayer or for the student. Indeed, we should perhaps ask, for whom is it supposed to be designed?

Whilst some may cling to the belief that a mass higher education system should be funded entirely by the taxpayer, this would raise taxes and reduce the dynamism of the sector as it came under further state control. It would also unfairly redistribute the cost burden towards those who do not benefit from higher education. Graduate tax proposals also have their downside as they do not allocate money to the university that has educated successful students.

In a recent paper for the Institute of Economic Affairs, Peter Ainsworth proposed a radical new method of paying for higher education. He argues that universities should make their own contracts with students to take a proportion of their earnings upon graduation. This would be like a private sector graduate ‘tax’. Because it would be written as a private sector contract recognised internationally, it would be easier to pursue graduates who moved overseas than it is under the current system. One of the key features is that it would incentivise universities to ensure that their students were employable and also encourage universities to maintain a relationship after graduation. It is worth noting that other schemes have been proposed which also encourage universities to have some “skin in the game” as far as the success of their graduates is concerned. Indeed, there are a number of small schemes in operation that have features similar to Ainsworth’s proposal – one is operated by the London School of Business and Finance, there is one in Germany and a few in the US and other American countries. Universities could securitise their future entitlements to bring forward their funding.

One important advantage of the proposal is that universities could be entirely free of government regulation and taxpayers would not have the burden of unpaid student debt. The arrangements would be seen as an equitable form of risk sharing – some students will do well and pay more and others less well and pay less. Of course, students could pay fees up front if they wished. Universities would also have an incentive to bring in a much wider range of courses. Some might be very cheap (have low fees and a low levy on future earnings); others might be part-time options where students opt to pay-as-they-learn rather than submit to a levy on their future earnings; others might be funded by industry.

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Perhaps the proposed “free-market graduate ‘tax’” is an idea around which supporters of a free market and egalitarians can coalesce.

Philip Booth is Editorial and Programme director at the Institute of Economic Affairs