An econometric estimate of Baumol and Bowen expenditures at Texas public universities following tuition deregulation

Expenditures per FTE student have risen rapidly in real terms in public higher education in the United States for over three decades. Two theory-grounded hypotheses have been advanced to explain this growth. Baumol’s (1966) “cost disease” argument is a macroeconomic perspective arguing that industries heavily reliant on skilled labor have limited ability to increase productivity but must increase their wage rate above their productivity gains to compete for this skilled labor in the labor market. Bowen’s (1980) “revenue theory of costs” proposes a microeconomic explanation that universities raise all they can and spend all they raise. Bowen’s thesis has been expanded into a behavioral theory by Martin (2011), who argues that the nexus of non-profit status, principal-agent confusion, and prestige seeking behavior are responsible for increased expenditures. Following Martin and Hill (2012), this study presents an econometric model that allocates expenditures to these two theoretical perspectives. Statewide real average expenditures per FTE student at Texas public universities increased 9% from fiscal year 2003 to fiscal year 2011 following tuition deregulation. Analysis of yearly fixed effects suggests that this policy change led to an increase in real expenditures above pre-deregulation levels on the order of $1,400 per FTE student. The ratio of Bowen to Baumol expenses is highest at elite Research universities and is lowest at the least research intensive Master’s universities. Additional tuition revenue was associated with a decline of Bowen expenditures relative to Baumol expenditures at Research institutions of -5% while Emerging Research and Doctoral institution displayed substantial increases in Bowen expenditures relative to Baumol expenditures (6% and 4%). This finding suggests that lower-level research universities with aspirations to higher research intensity increase their proportion of Bowen expenditures in conditions of expanding revenue. Research universities used additional revenue to reduce an existing cross-institutional subsidy from graduate education to the rest of the institution.