Tuesday, June 2, 2015

Extending the Tree of Knowledge through Branching

A striking feature of the Great Depression was the number of bank failures. Between 1930 and 1933, over 9,000 banks suspended operations, never to conduct business again.  The problem became so desperate that newly-elected President Roosevelt declared a “Bank Holiday” in which an inspection was to occur and only the sound ones would be allowed to reopen.  There are many reasons for the number of bank failures, but curiously Canada’s banking system didn’t suffer the same fate.  In fact Canada had zero bank failures between 1927 and 1980.  (That’s over fifty years without a failure!)  What could be the difference?  The answer is simple: branch banking was allowed in Canada, but not allowed in the US.  The simple principle of diversification was denied to the US banking industry and when the crisis hit, the banks fell like dominos.

Today, there is another industry set up for a similar failure: US colleges and universities—private institutions in particular.  In the same way that the US imposed “unit banking” on the financial industry, we currently have a similar anti-competitive, and anti-diversification, system targeting higher education.

It wasn’t until just recently that I discovered this situation firsthand.

I teach Economics and Finance at the University of Mount Olive in North Carolina.  UMO is a small, private, Christian and non-profit school in eastern North Carolina.  In January 2014, we launched our first graduate program, a Masters of Business Administration.  As a part of our business strategy we decided to launch the program entirely online.  The original idea was once we had the program up and running, we would look into seated and hybrid courses.  The business strategy was simple.  We wanted to diversify.  First, by adding a Graduate Program and, second, by extending ourselves outside of our region.  We had all seen the ads on TV by other schools pitching their online degree programs.  We wanted to get into that market where the world could provide us with students.  At UMO, a majority of our students are adult learners and many of those are affiliated with the military.  Working around deployments is nothing new for us.  For example, I have had a student who had to finish his Money and Banking course from Qatar.  So the faculty’s acceptance of the idea of an online degree for adult learners from all over the country came naturally.

The ability of a small Southern, Christian school to diversify is necessary.  As a regional school, we have been putting too many of our financial eggs in a single basket.  Some have made the quiet projection that within the next 5 years, 3 to 4 North Carolina colleges may disappear.  Mount Olive has had its fair share of financial difficulties, has successfully emerged from them and is better as a result.  We have learned, the hard way, the difficulties for a private school competing against tax-supported public schools.  We owe it to ourselves, our students and most importantly to our alumni that we not simply survive, but flourish.  (Imagine having a degree from a school that no longer exists.)

Last January, I had the honor to teach the very first MBA course offered at Mount Olive.  Of course, the first class drew heavily from our Alumni.  Over the following semesters, I have seen graduates of other schools join our program, however, they were still local to Mount Olive’s region.  This result, of course, makes sense because people who aren’t all that familiar with the school won’t apply.  Then I noticed that our reach extended west of I-95 and into the Triangle Area.  And so I asked our program director, almost off-handed, when we would see students from Virginia and South Carolina.  It was then that I learned the awful truth: we were not allowed to compete for students in other states!  It is against the law.  (My jaw hit the floor.)

In 2010, the US Department of Education issued a regulation that stated colleges and universities could only offer online programs in states where they also had a physical presence.  In July 2011, the DC District Court struck down this regulation.  However, the Department of Education appealed and in 2013 it issued a Notice of Proposed Rulemaking (NPRM).  Simply, the DOE announced that it intends to make a rule on the topic of State Authorization.  And this is where we stand today.

So while there is technically no Federal Rule preventing a college from advertising online programs across state lines, individual states have their own individual laws that prevent competition.  In other words, in order for the University of Mount Olive to compete across the country, UMO would have to request special authorization from each and every state that has a State Authorization law, which apparently is every state except maybe Hawaii.  Furthermore, the state would have to specifically name the school that it allows to compete with its own local schools (that means we’d have to lobby other states’ legislators—which is never cheap and hardly a guaranteed result).  There are other loophole-ish ways around some state laws.  Apparently some state laws are fairly vague.  In fact, I was told that some of the schools that advertise across the country have, in some states, a single guy with a phone in an office that creates their “physical presence.”  I am not sure if this is truly the case, but as with all loophole strategies, a single court case or amendment to state legislation can crush that approach.  (If you are interested in reading legalese for yourself, you can find it in the Code of Federal Regulations, Chapter 34, Section 600.9 State Authorization, http://www.ecfr.gov/.  Enjoy!)  The reality of these government restrictions is the creation of a chilling effect to new and innovative methods of delivering education; and it is a costly one as well, both in terms of schools lobbying for authorization and in terms of lost revenue. 

Diversifying how a school offers its courses is an act of entrepreneurship.  Reaching beyond the school’s natural regional limitation is also an act of entrepreneurship.  Both are necessary for a healthy and growing institution.  I teach entrepreneurship in my economics classes, and I see case after case of entrepreneurial ideas being squashed by the heavy hand of government.  In many cases, state legislators want to restrict online competition from “outside” educational institutions, especially if the competitor is a for-profit entity.  Regardless of the stated reason, it is the same protectionist argument that David Hume and Adam Smith fought against centuries ago.  It is the same argument made against bank branching in the early 20th century.  In each and every case, the result is that cost of protection exceeds the benefits.

The greatest strength of US Higher Education is that there is free and open competition.  Unlike the failing public K-12 system, where students are assigned to schools, US colleges and universities must persuade customers to freely opt for one’s school.  This competition ensures higher standards and lower costs.  Increasingly, each decade the government erodes this market connection through tax subsidies, grants, and so forth, but nevertheless, the link still exists.  At UMO, we are very aware of the importance of each and every student.  These students consciously choose to enroll with us and not somewhere else.  It is difficult enough to compete with institutions that benefit from the taxes that come out of my paycheck.  And it is beyond enraging to learn that we are banned from competing across state lines.  Nevertheless, I am optimistic.  Technology seems to find interesting ways around bureaucratic obstacles. 

The best solution is to extricate government from the higher education market.  Although such a goal may be wildly optimistic, we can at least do away with these State Authorization laws.  When the crisis hit the financial markets in the early years of the Great Depression, the result was that more than 9,000 banks closed their doors forever.  It is no secret that today there is a bubble in Higher Education.  If schools are unable to properly diversify, I shudder to think about how many Alumni will have degrees from schools which will no longer exist?