Personal Pricing, Private Endowments, and the Public Good

May 17, 2022

College pricing is confusing.  If you ask me a simple question -- “how much will it cost my child to attend Washington and Lee?” -- we can’t answer without seeing your tax return.

There is a method to the madness.  The model -- crazy as it may seem -- improves the quality of education for every student and increases our contribution to the public good.

Let me try to explain by way of an analogy that illustrates some of the key differences between non-profit educational institutions and for-profit businesses.

Imagine walking into a car dealership and spying the convertible of your dreams.  It’s sleek and powerful, with a 6-speed manual transmission (ok, that’s my dream).  You want that car!  The only question is whether you can afford it.  The sticker on the gleaming window says $75,000.  If you are able to pay that price, you can drive it home today.

This fantasy involves a luxury good well beyond most people’s means, but the basic structure of the transaction applies to ordinary purchases too.  There’s a single price that all customers pay.  That price more than covers the seller’s cost of production (otherwise, the company goes out of business).  If demand exceeds supply, the seller maximizes profits by raising the price as high as the market will bear.  People without enough money have to live without the product.  There is no financial aid at the car dealership.

To understand how W&L and other well-endowed colleges and universities set prices, imagine an alternate universe in which a high-end computer manufacturer issued the following press release:

For Immediate Release

We are pleased to announce the introduction of an extraordinarily powerful personal computer. It costs us $90,000 to make each one due to the skilled labor and complex infrastructure required to design and build them.  Our mission is to put these computers in the hands of highly capable users, who, in the course of their lifetimes, will accomplish things with these machines that benefit our entire society.  To make this possible, we will charge each user a price scaled to his or her ability to pay.  Users with earnings in the top 5% of the American income distribution will pay $75,000 -- 20% below the cost of production.  Users in the lower half of the income distribution will be given a computer for free.  The price for users between the 50th and the 95th percentile of the income distribution will vary based on what each individual can afford and will average $30,000 -- a discount of 67%.

We are able to sell these computers at such a significant loss thanks to the generosity of our loyal customer base.  Previous owners of our computers are so grateful for the impact of these machines on their lives that they have donated funds for the purpose of ensuring that talented youth, regardless of their financial circumstances, have the opportunity to use them.  These donors know from their own experience that the rising generation of young people will use these computers to make important contributions in every area of professional and public life.

The donated funds have been invested so they will be available to support affordable access to powerful computers forever.  We are committed to spending as much of this endowment as possible to increase quality and reduce the price for current users while also taking care to preserve the real value of the funds for the benefit of future generations.  We spend up to 5% of the endowment annually, which reduces the average price we need to charge users by 40%.  New gifts that come in each year reduce the price by another 7.5%.

We have received five orders for each available machine.  Prospective users recognize the long-term value of purchasing our powerful computers at such attractive discounts.  Wall Street analysts have urged us to take advantage of the overwhelming demand for our product by selling the machines to the prospective users who are willing to pay the most.  Our mission commits us to a different approach.  We will offer the computers to the applicants who have demonstrated the greatest ability to put them to good use.  Many of these highly capable users will be able to pay little or nothing at all.  We are proud to put our machines in the hands of these deserving young people, and we thank our generous donors for making it possible.

We would also like to thank the non-profit sector of higher education, from which we adopted this model for serving the public good through charitably supported private institutions.

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Notice the key features of this financial model and how they differ from those of a for-profit business.  There is a different price for every customer, based on what each can afford to pay.  Even those paying the $75,000 sticker price receive a substantial discount from the full $90,000 cost of production.  The ability to pay does not entitle you to make the purchase -- you have to apply and demonstrate that your presence on campus will enhance the education of everyone around you.

Higher education pricing is difficult to understand because it is so different from ordinary purchases.  But the model serves our mission by ensuring that talent and character, rather than ability to pay, are the key criteria for admission.  Car companies are happy to sell you a vehicle, no matter how poorly you drive.  Washington and Lee won’t take your money unless you are an outstanding student and a person who elevates those around you.  The result is a better education for every individual and a greater collective contribution to the public good as those students go on to lead lives of consequence.