Labor can get money for Gonski by cutting subsidies to uni students

I AM wondering whether to run a book on the dippiest quote of the year. The hot favourite at this stage comes from the vice-chancellor of Central Queensland University.

He likened the suggestion that the subsidies paid to Australian universities for undergraduate tuition be cut to "a funding regime of which North Korea would be proud". Ploughing on, he added that "it is unworkable for a developed nation like Australia and would make our educational performance match our gold medal tally".

This crazed discussion was prompted by the release of a report entitled Graduate Winners: Assessing the Public and Private Benefits of Higher Education, written by Andrew Norton of the Grattan Institute.

The central conclusion of the report is that tuition subsidies to Australian undergraduate university students are too high and can be reduced with little impact on enrolment levels.

Norton advocates a gradual phasing down of subsidy levels between next financial year and 2016-17, eventually creating an annual saving of about $3 billion. (Current government tuition subsidies cost $6bn a year and are rising.) This amount would fund half of the National Disability Insurance Scheme or the federal government's contribution to implement the Gonski reforms. Not chickenfeed.

The basis of Norton's argument is well accepted: that higher education generates both private and public benefits.

Private benefits accrue to graduates in the form of higher earnings relative to those without university qualifications. Public benefits are financial and non-financial.

Financial benefits take the form of the higher tax revenue that graduates pay thanks to higher earnings relative to non-graduates.

Sometimes referred to as the taxation externality, there is controversy over whether this effect should even be counted as a public benefit.

After all, are the higher earnings of graduates a result of their education or their abilities? And what about the non-graduates who have above average earnings and pay tax at the same rate as graduates? They have not been in receipt of large public subsidies.

The other public benefits fall into the category of the contribution that graduates make to civil society relative to non-graduates including higher rates of volunteering, lower rates of crime, better health outcomes and the promotion of political stability.

Private benefits are reasonably easy to estimate. Norton takes data from the 2006 census and compares the lifetime earnings of male and female graduates in various fields with the average of those who leave school after completing Year 12.

The fields that generate the highest private returns are dentistry, medicine, law and commerce. Those with the lowest private returns are performing arts, humanities and agriculture.

The magnitude of public benefits is more difficult to estimate. Norton estimates that the median female graduate pays $240,000 more tax than a female non-graduate. The figure for male graduates is $360,000. Not surprisingly, the largest gains in tax revenue come from the fields of study in which the private benefits are greatest: dentistry, medicine, law and commerce.

With regard to other public benefits, on the figures presented by Norton, there are not great differences in the rates of volunteering according to people's highest level of qualification. He finds that "general non-financial public benefits of higher education exist but are not large".

If public benefits of higher education are not large, particularly if we exclude additional tax revenue, the conclusion is that undergraduates are being significantly over-subsidised for their tuition costs. The private benefits are generally so large that even if subsidies were significantly cut, the demand for undergraduate education would be relatively unaffected. So the public benefits can be secured at a much lower cost to the taxpayer.

Care has to be taken when reaching this conclusion because it needs to apply at the margin, not just on average.

It is all very well pointing to high average rates of return, but not all graduates earn the average rate for their field. It is the marginal return that is the important variable when it comes to setting efficient tuition fees.

Norton recognises this problem by considering the point in the distribution of earnings at which demand would be affected because the expected return would be insufficient to encourage enrolment. This point varies by field of study.

One objection to the suggestion that tuition subsidies should be reduced is the possible impact on students of low socioeconomic status. Norton deals comprehensively with this issue.

It turns out that the principal barrier to participation in higher education by those from low socioeconomic status backgrounds is school performance. For those from disadvantaged backgrounds who nonetheless do well at school, their participation in higher education is little different from those from different backgrounds but with similar school results.

The existence of HELP - the income-contingent loan arrangement that is available to all undergraduates - means that upfront fees do not create a barrier to participation in higher education. Moreover, the subsidy element in HELP is substantial, amounting to one-third of the student contribution to tuition costs. This is in addition to the direct tuition subsidies paid to universities.

A further consideration is the means of phasing in lower tuition subsidies. In the short run at least, the universities' (real) costs of delivering undergraduate courses will be unchanged, so the amount students pay to undertake particular courses, albeit generally on a deferred basis, will need to rise.

Given the benefit of local knowledge and the fact universities cater to different segments of the population, the first-best approach is to allow universities themselves to set the fees of their different courses. (For political and fiscal reasons, the government may opt to provide some upper limit to fees for which HELP can be accessed.)

Across time, we would expect to see much more innovation in course delivery methods and a wider range in the costs of delivery across universities. Some may opt, for instance, to specialise in online courses, while others may experiment with a teaching-only model and forgo research.

The present system of demand-driven places combined with rigid fee regulation is not sustainable. There is a strong case for reducing government subsidies paid for tuition costs, while increasing the students' contribution. The money saved is desperately needed for other policy areas with higher public benefits.