The Rule of Diminishing Returns - Marginal Costs and Students

I recently spoke with a budget officer at a Utah university. In our discussion it became apparent that the institution viewed students as a revenue source. Each student brings a money in the form of tuition. More students generally means more money. What I could not understand, however, was how this could possibly be true in a market in which the consumer (students) pay below cost for the product. To me, educating each additional student would actually cost more than any amount of revenue it could possible bring in.

This got me thinking about my economics class, in which we had discussed the rule of diminishing returns. This rule goes something like this: Each additional unit produced costs less than the previous until a certain point. The example was that of a small hotdog stand. It costs a lot of money for a hotdog stand to put out its first hotdog. It has to buy grills, gas, electricity, cooks, etc. But the marginal cost of an additional hotdog is minimal. The same holds true in higher education: the first student costs more to educate than the second and so forth. But what happens when the hotdog stand hit capacity? Meaning, the grill is full and there is no room for more people or hotdogs. To add even one more hotdog is a significant cost. It would mean expansion, new grills, space, buildings, cooks etc. At this production level it only makes sense to add more hotdogs if the increased production can cover the extra costs. The same is true in higher education. Once a class or college hits its production limit, adding an additional student is actually a loss and not a gain. Thus the relevant question for administrators is not the average cost per student, but rather, the marginal cost per student. This is a figure that is extremely rare in analysis and needs to find a more permanent home.

Perhaps the marginal cost figure is rare because it is not easy to calculate. How can an institution predict library or computer lab usage? These factors do not correlate well with credit hours and guessing on these types of indirect costs can cause many problems. Policy makers should put more pressure on institutions to develop models for publishing and using marginal cost figures when contemplating increases in enrollment. This will help the legislature know the appropriate level of funding and the institution to know where to draw a line.