SPATIAL COMPETITION AND THE PRICE OF COLLEGE

I. INTRODUCTION Over the last half century, the U.S. higher educational system has been transformed from a collection of local, independent college fiefdoms into a regionally and nationally integrated market in which universities compete for both resources and students as in Hoxby (1997a). Concurrently, Duffy and Goldberg (1998) contend that the most salient feature of the U.S. higher education market has been tuition increases that exceed both the rate of inflation and income growth combined with financial aid packages that increasingly emphasize merit over need. The rising real cost of college in the midst of growing competition has become a source of considerable angst for parents, university administrators, and public policy analysts who are concerned that need-blind admission goals are being sacrificed in favor of strategic enrollment management policies designed to attract the best and the brightest. Thus, McPherson and Shapiro (1998) have asked if the rapidly rising cost of college begs the question of whether universities compete on price as opposed to some other metric such as reputation or resources. This article is the first to empirically examine price-setting practices among universities by questioning whether list tuitions (i.e., the posted price) or net tuitions (i.e., the posted price minus financial aid) of private universities respond to the geographic and qualitative proximity of competitors. There are theoretical reasons to expect that the increasing integration of the higher education sector might affect tuitions, particularly for selective private universities that are relatively unfettered by outside pricing constraints as discussed in Bowen (1967). For example, Hoxby (1997b) models integration as the opening of trade among autarkic colleges of varying quality; trade is found to reduce the monopsony power of universities over local consumers and intensify their competition for high-quality students who, because they are both inputs into and consumers of a college education, can improve institutional quality. Thus, despite applicant pools well in excess of the number of enrollment slots, Ehrenberg (2000) has documented that most selective and well-endowed institutions increasingly spend significant sums recruiting top applicants and use a combination of enrollment management tools such as merit aid, early decision policies, and campus amenities to lure top applicants to enroll. The advent of individual college rankings further raised the enrollment management stakes by providing an easily observed quality metric. As this measure has been found in Monks and Ehrenberg (1999) to influence a student's college choice, one may anticipate that select institutions may have been afforded an ability to ramp up their list tuitions, using their substantial endowments and the tuition revenue collected from the most financially able students to price discriminate in favor of needy, academically able students as discussed in Cook and Frank (1993), Ehrenberg and Rizzo (2004), and Hill, Winston, and Boyd (2004). Nonetheless, Heller (2004) notes that the collective impact of such enrollment management practices in higher education as a whole is of particular policy concern because empirical evidence suggests needy students increasingly rely on non-need-based aid, often in the form of loans, to finance their college educations. On the other hand, a number of studies, including those of Allen and Shen (1999), Moore et al. (1991), and Parker and Summers (1993), have documented that less-selective private institutions also appear to be cognizant that their more selective competitors have greater resources and deeper applicant pools, which yield greater demand elasticities for these institutions. Moreover, as discussed in Kane and Orszag (2003) and Rizzo (2004), less-selective private institutions must increasingly ward off the potential flight of students to lower cost public institutions that have also been forced to manage enrollments in response to declining state government support. …