When higher education policies meet the marketplace

This article was written by Ioana Schiopu, Associate Professor in the Department of Economics, Finance and Accounting at Esade.

Imagine choosing a college while juggling a full-time job, family responsibilities, and a limited budget. A public university offers an affordable education but may require a rigid schedule and years of study. A prestigious private university promises strong career prospects but comes with a hefty price tag. Then there is a third option: a college offering flexible schedules, online classes, a straightforward admissions process, and career-oriented programs designed to get you into the workforce quickly. For many working adults, parents, and first-generation students seeking better economic opportunities, this third option has been a for-profit college.

For-profit colleges occupy an uneasy place in American higher education. They have expanded access, especially for students who do not fit the traditional image of an 18-year-old living on campus. But they have also drawn scrutiny: their students borrow heavily and often struggle to repay. The disproportion is striking. Around 2010, for-profit colleges enrolled roughly 10% of U.S. undergraduates yet absorbed about a quarter of all federal student aid and accounted for more than 40% of borrowers in default.

In a recent study, published in the RAND Journal of Economics and co-authored with Ciprian Domnisoru (Aalto University), we ask the following question: how do for-profit colleges behave when the funding policies and rules around them change?

Answering it requires looking at higher education as an ecosystem with interacting parts, rather than a set of isolated institutions. For example, when public universities receive less state support, they may raise tuition or limit expansion. This makes the for-profit sector more attractive for some students. Therefore, for-profit institutions will compete for this additional market share. When federal grants become more generous, students have more money to spend, but colleges may also adjust their prices. When regulators impose debt-based accountability rules, schools may change not only what students pay, but also how much they spend on instruction.

A model of the college ecosystem

To study this market, we build a quantitative model of four-year higher education in the United States. The model offers a structured way to answer “what if?” while keeping track of how students and colleges respond to changes in their environment.

The model includes three kinds of institutions, each with different incentives. Public universities work within tuition and subsidy constraints while trying to educate many students and raise achievement. Nonprofit colleges place greater weight on quality and selectivity. For-profit colleges maximize profit, choosing tuition and instructional spending in response to competition.

We also distinguish between traditional and non-traditional students. Traditional students are younger, typically 18 to 24, and depend on parental income in financial-aid calculations. Non-traditional students are older than 24 and treated as independent. The distinction is central: the rise of for-profit colleges is closely tied to nontraditional students, many of whom need flexible schedules, online programs, and easier entry points.

Finally, the model separates online from in-person education, because online programs scale differently and can reach students who cannot relocate or attend at fixed times.

We use this framework as a laboratory, simulating policy and regulatory changes and evaluating them in terms of students’ learning outcomes and welfare.

What the simulations show

One of the central findings of the paper is that changes in student financial aid or the funding of public universities might have unintended effects in the for-profit sector. For instance, we examine what happens when Pell Grants become more generous. Pell Grants are need-based federal grants aimed at helping lower-income students pay for college.

For-profit colleges, especially lower-cost ones, capture a large share of the increase. They do so by lowering tuition enough to attract more Pell-eligible students. Yet the same simulations suggest they also reduce instructional spending. More students may gain access, but the education they receive involves lower instructional resources.

This does not mean the policy is inefficient. The study finds overall welfare gains from increasing Pell Grant caps, especially for lower-income students. But those gains arise from redistribution. Higher-income households may lose, partly because they finance the expanded aid. The policy improves access, but it also changes who pays and who benefits.

The most striking result concerns gainful employment regulation, which ties federal student aid to graduates' debt-to-earnings ratios: when a college's former students carry too much debt relative to their earnings, its current students lose access to federal aid.

In the simulations, for-profit colleges prefer to comply with the rule rather than let their students lose federal aid access, at least in the short-run. But their method of compliance is revealing. They lower tuition, which reduces student debt. That helps them meet the debt-to-earnings standard. However, they also lower instructional spending. The result is a tradeoff: the rule may reduce debt burdens, but it may also push schools to cut educational inputs unless quality standards are also part of the policy.

There’s also a world without the for-profit sector simulation. In that scenario, the average human capital of college graduates rises, because some lower-quality options disappear. But overall welfare falls, largely because some students who would have attended for-profit colleges no longer enroll at all. This finding captures the tension at the heart of the debate. For-profit colleges may provide lower instructional quality in some settings, but they also provide access to students who might otherwise be left out.

Student incentives matter, but so do those of colleges

The broader lesson is that policy analysis has to account for how all players in the market react, and how their responses interact. When governments change the rules of college finance, not only students change their decisions (whether to enroll, how much to borrow, what kind of education to receive, and whether the degree pays off). Colleges change their behavior too, following their objectives. The real question is whether policy can encourage them to change in ways that help students not only enroll, but also succeed.