Economics of the war on Australian undergraduates


An issue that has perplexed me over the last few weeks is why do the top universities in Australia continue teaching Australian undergraduates when the fees they get from these undergraduates are far lower than foreign fees. Further, there is no doubt in my mind that given the intense competition for hugely expensive research prestige; top Australian universities will  be focused on maximising profit in their undergraduate production activity.

Let’s look at some (simplifying) features of the market for undergraduate education:

  1. Australian universities are essentially price takers when it comes to the fees they charge international undergraduate students. So we are in a classical small open economy setting, which we may reasonably assume is perfectly competitive.
  2. The international price for undergraduate degrees is higher than the equilibrium local price that would emerge in the counterfactual closed economy setting. So education is an export market.
  3. All Australian undergraduate fees are channeled through the HECS income contingent scheme. This tells us that local demand for undergraduate degrees is not price sensitive and can in the (relevant region) be taken to be perfectly price inelastic.  An important  feature of income contingent schemes.
  4. The supply curve for undergraduate education is strictly upward sloping. Indicating increasing marginal cost of educating undergraduates (basically this is not a capacity constraints model with perfectly elastic supply or perfectly inelastic supply). I’d venture the view that supply is presently in the inelastic region.

I’ll look at three situations, two of which compete in my mind for models representing what we presently have (which of the two fits better is one of those rare empirical questions that embarrassingly rear their heads in economics because of indeterminacy of modelling).

A. Deregulated HECS fees (Pyne May 2014)

A world with deregulated fees can be described by the following demand-supply diagram that appears in various contexts in  first year economics classes (outside the US I guess, because I don’t think that anyone there is interested in small open economies):


  • In a setting where HECS fees are unregulated Australian students pay the same as international students for their degrees, and that price is set by international markets. All demand by Australian students is met, and the number of international students is determined by the marginal cost of educating them and world prices.   

B. Demand driven system with capped fees (one version of the status-quo since 2012)

Here the government caps fees charged to local students. The government imposes a price ceiling for domestic prices, which at present can be around one fourth of international prices. This is similar to the kinds of price ceilings in Venezuela on the domestic prices of exportable goods such as petrol and toilet paper. As in Venezuela the expectation is that local suppliers will want to shift all supply to the export market.


  • One anticipates that Universities will want to reduce the number of low-fee paying domestic places and specialise exclusively in international student education. So like Venezuela we are likely to see acute shortage in undergraduate education for local students.

C. Demand driven system with capped fees and forced supply (second version of the status-quo since 2012)

As mentioned above, there is no explicit minimum quota on the number of Australian undergraduates that a university must educate. So a university can, thinking hypothetically, reduce the number of Australian undergraduate place to zero (unlike the situation of a public hospital that may wish to specialise in providing care to private patients).

So imagine for now a move to force universities to educate Australian undergraduates. That is force universities to supply Australian undergraduate education at the same level as they would have had they been able to increase local fees to international levels. This is illustrated below in our diagram:

  • sd3With forced supply the university teaches the same number of local and international students as it would have in a deregulated market. Further, because the local demand curve is perfectly inelastic (due to HECS), forced supply results in a subsidy to local students (indicated by area A) and no deadweight loss (no efficiency loss).  

For an economist the most alluring feature of the income contingent loan system is precisely the price insensitivity of demand under HECS. This allows subsidies (as above) that are not associated with efficiency losses (yuck).

A source of forced supply

Unfortunately, there is no explicit minimum quota for the number of Australian undergraduate places in Australian universities. Thus, I am perplexed. What is the mechanism of forced supply in our system?  The only indirect mechanism that I am aware of is the following rule, which appears to be a social contract between Universities and the Australian public:

  • A University must admit an Australian undergraduate if their high school score is higher than the high school score (equivalent score) of an admitted international student.  

Thus, if a university prevents an Australian undergraduate from enrolling in a degree, it must prevent any less qualified international undergraduate from enrolling.

The obvious corollary is that a senior university administrator seeking to shift university education to more lucrative markets has one of two choices:

  1. Break the nexus between the quality of the marginal international undergraduate student and the marginal Australian undergraduate. That is, admit lower quality international students and demand higher quality Australian students.
  2. Shift education at the University away from undergraduate degrees placing an emphasis on fee paying masters degrees.  Thus undermining our decades old free education system.
24 Responses to "Economics of the war on Australian undergraduates"
  1. I don’t think the ‘social contract’ has much to do with the relative academic merit of international and domestic students, especially since there is little transparency on the internationals. I think that factor is largely an internal matter for universities, with academics not wanting too many hard to teach students of any background.

    Rather, the social contract is around opportunities for local students and to a lesser extent meeting the skills needs of employers. On this, there is little or no evidence of a problem, with almost all universities substantially increasing domestic undergraduate places in recent years.

    It is possible that some Group of Eight universities facing insatiable internal demands for ever-more research funding would favour that mission over their undergraduate teaching mission, and reduce their domestic undergraduate places in favour of fee-paying students. However, there is provision for dealing with that within the current legislation should it become necessary.

    • Andrew,

      1. Why can’t Australian undergraduates opt to pay full international fees and gain admission into Australian universities? They were able to do this in the past, but something stopped universities from offering full fee Australian places. That is part of the social contract, no?

      2. What provisions in the current legislation are there?

      3. The mechanism in which universities are compelled to compare Australian school leavers with international school leavers and their levels of achievement is a forced provision of supply.

      4. recall the #4corners report on the quality of education, particularly in relation to international students. That was effectively part of the enforcement mechanism in a social contract between Australian Universities and the public.

      • Unis could offer full-fee places once they had met their government-supported target number between 1998 and 2008. Quite a few did this successfully, but the total numbers were never that great (p. 37 of this report: This option was abolished by the Rudd government. It’s probably not viable with the demand driven system, as politically the main argument was that places were otherwise limited, and commercially there is a lot more competition now than there was then.

        The government can use the funding agreements to impose additional conditions. Potentially it could make the deal all or nothing for Commonwealth supported places.

        I have never seen any published rigorous analysis of how admission requirements for domestic and international students compare.While there are scandals in admitting internationals, there is a lot of controversy over low-ATAR domestics too.

  2. While Australian universities are price takers, their products are differentiated. In fact the G8 business model under the Pyne policy was to offer a (perceived) higher quality product at a higher price. So maybe you should go with monopolistic not perfect competition for your analysis.

    • There was a fundamental misunderstanding of the effects of the Pyne model. Some thought that universities can determine their own fees, but others like myself were sure that as price takers universities will set fees at the level that they command on the international market. Any difference in fees will reflect international prices for their product; sure Melbourne will charge more than Swinburne but that’s because they compete in a different international market, in which they are price takers.

      • If local demand is perfectly inelastic (close to the truth with HECS) why wouldn’t universities forget about foreign students and instead build and fill their capacity with local students at an infinitely high price?

        • Which is, by the by, what Australian law schools have done with their post grad law education (where post grad means first degree, a JD). The numbers of places have sky rocketed, as have the fees. But it’s all on tick so the students don’t care about the price. (Or not until they discover there are no jobs in the legal profession for them, but by then it’s too late.)

          • “post grad commerce .. It is a market that was dominated by international students, and an acute lack of diversity.”

            That’s not true. The students come from many different parts of China, maybe even Thailand and Malaysia. Anyway, what does it matter? They come, they pay cash – a lot of it – and this in turns pays for commerce academics to do their research. What’s not to like?

        • Finally, if OZ universities charge locals too much, they’ll go oversees for their education at international prices.

          • Yes Andrew, I read that report. On the issue, it’s nearly exclusively about commerce postgraduates within the income contingent fee-help schemes. That market has particular features that the undergraduate market does not. It is a market that was dominated by international students, and an acute lack of diversity. That lead universities to universities to price differ in an attempt to fix the diversity issues.

            The deregulation of the near universal undergraduate education under HECS will undoubtedly, in my mind, see Australian students charged more than their international counterparts. A conversation that was underway in the higher offices in some of our top universities.

  3. “something stopped universities from offering full fee Australian places.”

    That would have been the successful campaign to stop the “dumb but rich” [read: their parents sent them to private schools] applicants getting places ahead of more worthy [read: educated at government schools] applicants. I think it was Ms Gillard, as Education Minister, who stopped full fee Australian places, but I might be wrong about that.

    • Which in turn implies that there is no way that Universities will be able to substitute from Australian undergraduate places to “dumb but rich foreigners.” Thus, the social contract that forces supply:

      “A University must admit an Australian undergraduate if their high school score is higher than the high school score (equivalent score) of an admitted international student. “

      • Some universities, or at least some campuses of some universities, (such as the capital city CBD campuses of regional universities) already have 100% foreign students, or so it appears from casual observation.

        • Andrew Norton has done the figures on this. It seems that there has been no significant reduction in Australian undergraduate education. I think that we have seen an expansion of international undergraduate exports, and I suspect that that has grown more than the growth in Australian under graduate education.

          • It’s hard to say what the long-term trend on this will be. In the period in which both domestic and international student numbers were uncapped, domestic students grew more quickly. However, this could just be coincidence due to various negative factors affecting international student demand, and so was not a reliable guide to university supply preferences.

  4. yes, a good question. For one, the number of internationals is rising so its possible that it simply takes time to replace the domestics with higher-fee paying foreign students. There are thus already colleges focused almost exclusively on the international market.

    A second is that what is truly sold is a package that includes education and an Australian visa. There is an implicit fix supply of those visas so as a group there is a limit to how many internationals the unis will be allowed to invite in.

    Dont forget also that universities operate in a very political environment so they have to be very careful not to be seen by the local population and politicians as short-changing domestics. After all, they are non-profit institutions, not private businesses. So there is an implicit political constraint.

    Andrew seems to know about an explicit regulatory constraint.

    • I don’t think there is an explicit regulatory constraint. I think that there is a potential ad hoc constraint: the minister calls a VC and threatens him/her with various awful things. The VC appears on tv all apologetic, etc. It happens in state universities in the US. I don’t like these kinds of ad hoc mechanisms, they don’t make sense.

    • On the visa thing, the following is a true story. Some years ago a VC of a G8 university was walking along a street in a CBD where he came upon a group of foreign students milling around outside the office building that passed as the campus of a regional university. Being friendly and curious, he struck up a conversation with some of them.

      “What are you studying?”
      “Where do you do your practical work?”
      “There’s no practical work. Only theory”.

    • There is no general regulatory constraint in place. Universities need permission to close courses/majors in areas of skills need (not many these days), or which would cause a skills shortage if closed. Permission is also needed to close various language courses. However, the same mechanism (funding agreements) could be used to impose more general constraints if universities neglected their local responsibilities. I agree with Paul that these are not-for-profits that operate in a political environment and they will be conscious of that. The regulatory option is there but I doubt it will be needed on any large scale, if at all.

  5. I thought I’d post a comment because no-one has posted anything new or made a comment in 6 weeks. You won them over Rabee.

  6. Despite its promise of being Core Economics, this blog has become a sad sight. There are few contributions, and the overwhelming quantity of the posts and comments involve navel-gazing about matters internal to universities. Scroll through, have a look, it’s pathetic.

    Apart from Paul Frijters, and occasionally Joshua (and oh dear, please don’t mention that post on Donald Trump) the blog is devoid of content for anyone interested in more than university administration.

    While university politics (fees, research protocols, appointment decision, tenure, committee structures, research funding, foreign students, grade inflation, etc.) undoubtedly goes down well with the biscuits in the faculty tea room, do you ever talk about worldly economics issues?

    Come on fellows, lift your game.

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