All Terrain Thinking

A Compendium of things I think are Important

Economics: It's not just whats' in your wallet

Answers for the Day
Opportunity Cost

1. Assume that you are the advisor to a friend from Massachusetts who is considering enrolling at University next year. As an input into her decision, your friend has asked you to determine for her the cost of a year's education at University for an out-of-state student. To help her out, please specify the cost of a year at University for an out-of-state-student.

As a starting point you need to acknowledge what the alternative is to the decision to enroll at University.  We will make the assumption here that we are dealing with an individual who must decide whether to attend University or to work after graduation from high school. To compute the cost of the decision to attend University, I suggest that you plug the appropriate numbers into the framework below. You also must make some assumptions concerning the student. To get us going, let's assume the following (some of which you would have found by tracking down the cost data for the University).

• If she chose to work, the starting salary for her job is $20,000 per year.
• The monthly costs for rent, food, and recreation, if she takes the job and gets an apartment, are currently $700, $300, and $200.
• Tuition, fees, and book expenses are $12,380, $1,306 and $600 per year.
• Room and board (living costs), and recreation costs for a year at school will be approximately $500 and $300 per month spread over the twelve months of the year.
• At school your friend expects that she will earn $6,000 a year.

In the first two columns you would put in the figures for the two options. We will be computing the net income associated with each choice. If your friend goes to University, she will end up the year having to raise $17,886 to pay her bills. If she goes to work, she will end up the year with $5,600 in saving. The difference between the two, $23,486 is the economic cost of her decision to allocate her time (scarce resource) going to school for the year.

2. Why have we seen an influx of middle age students into colleges and universities?

Why have we seen an influx of middle-age students into colleges and universities? There are a number of causes, but one has clearly been the rise in the number of middle age managers and production workers who have been laid off in the restructuring of corporate America. To see the situation, assume that we use the framework above, but that we assume that the average income of a middle age manager is $45,000. In this case the cost of a year of school would be $25,000 higher for the middle age person than your friend because the manager would be giving up $45,000 rather than $20,000. At $48,486 you can see why we do not have too many middle age managers in the classroom. But what if they became unemployed and their earnings potential was reduced to $20,000. In this case they would have the same cost as your friend and with the lower cost you could expect to see more people choose to enter school.

3. What impact would you expect the continued downsizing of corporate America to have on the age composition of university students? What is the basis for your answer?

Check out the question above for a key to the answer. If we saw the corporate downsizing (restructuring) continuing, we could expect to see more middle age students as the cost of a year's education for this group would be substantially reduced.

4. Universities, like most businesses, are continually on the lookout for new products. One of the more popular graduate programs is the MBA, Masters of Business Administration - a program that appeals to a wide array of individuals ranging from recent college graduates who want an improve their chances of a successful entry into the business community to mid career executives looking for an MBA to further their advancement within the community. Traditionally, MBA programs have been either a two-year, full-time program or a part-time, evening program extending over many years. Neither has been particularly successful at tapping the potentially large market for mid-career executives. As a consultant to the University, you have been asked to design a 'new' MBA program that would simultaneously reduce substantially the cost of an MBA degree for mid-career executives and raise the tuition rate that the university could charge. Stated somewhat differently, could you design a program where the university could charge a higher tuition rate, but where the students would correctly perceive the new rate as being lower.

How entrepreneurial are you? Once again the key to this problem can be found in the framework specified in question 1. Consider the following as an example. Assume that the career executive has a salary of $70,000, that she will not work while in the program, that the two-year MBA program costs $15,000 per year, and that living and R&R costs will be $40,000 and $5,000 regardless of the school choice. If we used the earlier framework, we get the following: a year's worth of an MBA costs this individual $85,000 despite the fact that the tuition is only $30,000.

But what if the program were offered on weekends at a tuition of $20,000 and the executive could continue to work? If you return to the framework above, you would end up with the following figures. Although the university raised the tuition by $5,000 a year, the actual economic cost of the degree decreased to $20,000. The university could charge a higher price while the potential student saw a substantial reduction in the cost of the degree.

5. Consider the plight of the students who enroll in the Executive MBA program as they attempt to manage their personal and professional lives. Let's assume that they had complete lives before taking on the program - that they devoted a certain amount of time to maintain their personal lives.  Once they enter the program, however, they have additional demands on their time. Now these students will be trading off peace at home that is related to the time spent at home for grades that are related to the hours spent studying. Please use the following graph to describe conceptually the tradeoff between Peace at home and grades that now faces them.

The tradeoff between the two can be seen in the diagram below.   The curve is drawn on the assumption that our MBA student has set aside a certain amount of time to use either studying or creating peace at home.  The negative slope tells you that peace and grades are negatively related -   to produce better grades time will need to be moved to home from studying which will lower the grades.  

What will happen to the 'possibility line' / tradeoff if they find additional time resources by deciding to spend less time sleeping.

Here we are talking about an increase in resources which means that the possibility curve shifts outward. 

What will happen to the tradeoff (curve) if the students become more efficient at producing peace at home.

Here we find that the MBA student has discovered the secret of quality time  - that for any hour of time spent at home more peace will be created.   Now if we devote all of our time to studying there will be no change in the level of grades (same horizontal intercept), but the decision to spend all of the time at home will produce more peace (higher horizontal intercept).  If we connect the two points we will see that the curve has moved outward and that it has a steeper slope.

6. Does class size matter? Administrators, students, and parents are increasingly asking this question as they attempt to restrain costs, choose courses, and select colleges. To gain some insight into the problem, consider the following simple model. Let's assume that the university has designated small classes (300-400 level) that average 20 students and lecture classes (100-200 level) that average 100 students.  Further, assume that there are 500 faculty members, each teaching an average of 5 courses a year. Construct the 'class-size possibility line' which provides a graph of the # of students that can be serviced in small and lecture classes with the existing faculty.

The graph appears below.   If all of the faculty teach introductory courses then we will have 250,000 seats available (500 faculty * 5 courses per faculty*100 students per course).  If we have the faculty teach only seminars then there will be 50,000 seats available (500 faculty * 5 courses per faculty*20 students per course).  By connecting these two end points we get the student possibility curve for the university. Each unit of faculty time can 'teach' 5 lower level students for the same resources as 1 upper level student.  In this case the upper level student uses 5 times the resources a lower level student, so the price 'should' be 5 times as large.

If we then reduce the faculty by 100 we get a new student possibility curve that falls inside of the original one.  Now if all of the faculty teach introductory courses then we will have 200,000 seats available (400 faculty * 5 courses per faculty*100 students per course).  If we have the faculty teach only seminars then there will be 40,000 seats available (400 faculty * 5 courses per faculty*20 students per course).  By connecting these two end points we get the student possibility curve for the university (red line is the new possibility curve).

€ What will happen to the 'class-size possibility line if the University raises average class size to 150 students in the lower level classes?

Here we follow the same procedure except that the only change we have is in the large classes.  In this case the maximum number of students that the university can teach in lecture classes will rise from 250,000 to 375,000 (500 faculty * 5 courses per faculty*150 students per course).  The student possibility line will rotate outward as we see below. (the red line is the new line under the assumption that there are 500 faculty)

7. Economics has been called the extension of war. What is your view on this statement and how is it related to Paul Kennedy's concept of "imperial overstretch?"

One tack on this question would be to return to the production possibility curves in which we examine the alternative means to achieving more. In the world which Kennedy talks about, a world in which the concept of progress and growth was virtually nonexistent, increases in wealth could be accomplished only with territorial expansion which required an increasingly large military and war was the primary means by which wealth was accumulated. The problem was that there was an inherent flaw in the system - the tendency toward "imperial overstretch."  

Adam Smith provided an alternative - productivity growth - but this required specialization which in turn required an economic system to facilitate the transactions needed to sustain the specialization. If we take this argument and extend it beyond national borders, which is what David Ricardo, a contemporary of Smith suggested, we enter into the world of international trade where we need to develop a system to facilitate the resulting flows of goods, services, capital, and labor. In this situation the control over resources does not originate with territorial control and this will alter the balance between military and economic policy in a national security strategy.

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