Digital Economics is Transforming News Media; Are Universities Next?

by on September 3, 2009 · 16 comments

Yale Clock TowerThe Wall Street Journal reports today that student loan borrowing for college “in the 2008-09 academic year grew about 25% over the previous year, to $75.1 billion,” with the average student borrowing $13,172 to pay for college. So it should come as an enormous relief that one Internet start-up, StraighterLine, has essentially made the university fully virtual, offering classes for just $99/month.  While this may seem like a boon for students, especially the millions of Americans for whom even community college tuition seems an insurmountable obstacle to climbing up the economic ladder, such “e-Learning” offerings are already, predictably, coming under attack by entrenched interests in “Big Ed” (the professoriat!) as the “media-software–publishing–E-learning-complex.”

In Washington Monthly, Kevin Carey explains why “The next generation of online education could be great for students—and catastrophic for universities.” In a nutshell, the story is the same basic theme of Chris Anderson’s book Free!: digital distribution of information will ultimately drive costs down to zero. Carey shows how universities are essentially facing the same sorts of pressure from disruptive innovation as newspapers—except with more capital costs:

Colleges are caught in the same kind of debt-fueled price spiral that just blew up the real estate market. They’re also in the information business in a time when technology is driving down the cost of selling information to record, destabilizing lows.

In combination, these two trends threaten to shake the foundation of the modern university, in much the same way that other seemingly impregnable institutions have been torn apart. In some ways, the upheaval will be a welcome one. Students will benefit enormously from radically lower prices—particularly people like Solvig who lack disposable income and need higher learning to compete in an ever-more treacherous economy. But these huge changes will also seriously threaten the ability of universities to provide all the things beyond teaching on which society depends: science, culture, the transmission of our civilization from one generation to the next.

Whether this transformation is a good or a bad thing is something of a moot point—it’s coming, and sooner than you think.

Carey tells the the fascinating tale of StraighterLine, whose founder, Burck Smith, predicted the rise of digital higher education in his graduate thesis at Harvard’s Kennedy School of government in 1999. He predicted that we would look back from 2015 and see that:

Technological change was the spark that ignited the wildfire of change. Like a hole in a dike, cheap and instantaneous Internet-based content delivery and communication nibbled away at barriers to institutional competition… . Suddenly, a student seeking an introductory statistics course could choose from hundreds of online courses from anywhere in the world… . Feeling the effects of low-cost competition, site-based education providers started cutting course costs and prices to attract students.

Carey’s tell would resonate well with anyone who’s read George Gilder’s brilliant works Microcosm and Telecosm, about how innovation in general and digital economics radically drive down costs.

Even as the cost of educating students fell, tuition rose at nearly three times the rate of inflation. Web-based courses weren’t providing the promised price competition—in fact, many traditional universities were charging extra for online classes, tacking a “technology fee” onto their standard (and rising) rates. Rather than trying to overturn the status quo, big, publicly traded companies like Phoenix were profiting from it by cutting costs, charging rates similar to those at traditional universities, and pocketing the difference.

This, Smith explained, was where StraighterLine came in. The cost of storing and communicating information over the Internet had fallen to almost nothing. Electronic course content in standard introductory classes had become a low-cost commodity. The only expensive thing left in higher education was the labor, the price of hiring a smart, knowledgeable person to help students when only a person would do. And the unique Smarthinking call- center model made that much cheaper, too. By putting these things together, Smith could offer introductory college courses à la carte, at a price that seemed to be missing a digit or two, or three: $99 per month, by subscription. Economics tells us that prices fall to marginal cost in the long run. Burck Smith simply decided to get there first.

Essentially what Smith did was to unbundle content:

To anyone who has watched the recent transformation of other information-based industries, the implications of all this are glaringly clear. Colleges charge students exorbitant sums partly because they can, but partly because they have to. Traditional universities are complex and expensive, providing a range of services from scientific research and graduate training to mass entertainment via loosely affiliated professional sports franchises. To fund these things, universities tap numerous streams of revenue: tuition, government funding, research grants, alumni and charitable donations. But the biggest cash cow is lower-division undergraduate education. Because introductory courses are cheap to offer, they’re enormously profitable. The math is simple: Add standard tuition rates and any government subsidies, and multiply that by several hundred freshmen in a big lecture hall. Subtract the cost of paying a beleaguered adjunct lecturer or graduate student to teach the course. There’s a lot left over. That money is used to subsidize everything else.

But this arrangement, however beneficial to society as a whole, is not a particularly good deal for the freshman gutting through an excruciating fifty minutes in the back of a lecture hall.

The analogy to newspapers is clear:

What happens when the number of students making that choice reaches a critical mass? Consider the fate of the newspaper industry over the last five years. Like universities, newspapers relied on financial cross-subsidization to stay afloat, using fat profits from local advertising and classifieds to prop up money-losing news bureaus. This worked perfectly well until two things happened: the Internet made opinion and news content from around the world available for nothing, and the free online classified clearinghouse Craigslist obliterated newspapers’ bedrock revenue source, the want ads. Suddenly, people didn’t need to buy a newspaper to read news, and the papers’ ability to subsidize expensive reporting with ad revenue was crippled. The result: plummeting newspaper profits leading to a tidal wave of layoffs and bankruptcies, and the shuttering of bureaus in Washington and abroad.

Like Craigslist, StraighterLine threatens the most profitable piece of a conglomerate business: freshman lectures, higher education’s equivalent of the classified section. If enough students defect to companies like StraighterLine, the higher education industry faces the unbundling of the business model on which the current system is built. The consequences will be profound. Ivy League and other elite institutions will be relatively unaffected, because they’re selling a product that’s always scarce and never cheap: prestige. Small liberal arts colleges will also endure, because the traditional model—teachers and students learning together in a four-year idyll—is still the best, and some people will always be willing and able to pay for it….. Regional public universities and nonelite private colleges are most at risk from the likes of StraighterLine. They could go the way of the local newspaper, fatally shackled to geography, conglomeration, and an expensive labor structure, too dependent on revenues that vanish and never return.

The difference between newspapers and higher education is that, in education, the government ultimately holds all the cards through the power of accreditation:

Credits and degrees can only be granted by—and students paying for college with federal grants and loans can only attend—institutions that are officially recognized by federally approved accreditors. And the most prestigious accreditors will only recognize institutions: organizations with academic departments, highly credentialed faculty, bureaucrats, libraries, and all the other pricey accoutrements of the modern university.

Carey concludes by noting that government regulation ultimately threatens innovation and will likely protect “Big Ed” from competition, just as it has protected the Big Three auto manufacturers:

Smith’s struggle to establish StraighterLine suggests that higher education still has some time before the Internet bomb explodes in its basement. The fuse was only a couple of years long for the music and travel industries; for newspapers it was ten. Colleges may have another decade or two, particularly given their regulatory protections. Imagine if Honda, in order to compete in the American market, had been required by federal law to adopt the preestablished labor practices, management structure, dealer network, and vehicle portfolio of General Motors. Imagine further that Honda could only sell cars through GM dealers. Those are essentially the terms that accreditation forces on potential disruptive innovators in higher education today.

Carey’s story highlights not only what the future of universities might look like, but the dangers of subsidizing newspapers as well. Many who have bemoaned the demise of newspapers have called for indirect government support in the form of preferential tax treatment by relaxing non-profit rules to accommodate newspapers, letting newspaper subscribers deduct their annual newspaper spending or perhaps even borrowing from the French and giving income tax breaks to newspaper journalists—or direct subsidies like bailouts for newspapers or expanded public funding the model of NPR. The obvious problem raised by such proposals is the old Golden Rule: “He who has the gold, makes the rules.” Control necessarily follows funding.

The more subtle, long-term problem with such subsidies is that they require some form of accreditation to determine who or what is eligible for government largess or tax breaks.  This creates essentially the same problem Carey predicts with universities: Established interests will lobby government to protect them from competition by radically cheaper, innovative business models based on new digital technologies. This, in turn, will both retard the development of education, and therefore the advancement of knowledge, and increase the problem of government control: The lower down what George Gilder called the “Learning Curve” we go in terms of figuring out how to make e-Learning inexpensive, the greater Big Ed will depend on government for protection. If that happens, academic freedom will become as meaningless as freedom of a press dependent on government funding.

As a practical matter, I wonder:

  1. How services like StraighterLine will compete with free offerings of course materials through services like iTunes University, which offers a growing compendium of free college lectures (but not course materials, tests or tutoring)
  2. When we’ll finally see e-Learning costs drop enough that an ad-supported model might become feasible. You may laugh now, but today’s $99/month could well be tomorrow’s $9.99/month—at which point advertising models might prove competitive, especially if advertisers can get the revenue boost of delivering personalized marketing to users.

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  • Timon

    I think if anything the public institutions will be leaders in this — no one who has seen public school grads fulfilling their “quantitative reasoning” requirements with high-school sophomore algebra fails to grasp the advantages of automating as much of the process as possible. What will happen is that many institutions will offer mostly online versions of an increasing number of classes, charging the same as they do for the in-the-flesh version. For the big lecture classes the online experience is already better; you can pause, google phrases and confusing bits, do examples, look up equations and constants, go to the bathroom, sit in a comfortable chair, repeat things until you understand them, and the quality of professor is higher. Schools, especially the good community colleges and sub-flagship state schools will build up or a accrete a library of lecture materials that will be presented basically conterminously with what we now think of as a semester- or quarter-length class, with a few on-site tests and a mailbox for assignments turned in by students who can't yet scan to pdf. It is already changing 1st and 2nd year college into something you can do rather than somewhere you have to go — I have done a bit of it myself, at well-known, good state schools.

    My interpretation from the article is that outfits like StraighterLine, while they have a good underlying workflow and idea, are inherently on thin ice because they are trying to teach intentionally undemanding subjects (why should anyone get college credit for precalculus?) at a profit, which is not a good way to build up academic credibility. The first people to pull it off will be non-profits like some sort of online Olin College or Cooper Union, with cross-registration agreements with known city colleges and state schools, and they will have to focus on challenging material — calculus to linear algebra, foreign languages, programming, etc., and adhere to much higher standards than the existing 2-year schools. If that kind of process succeeds in eventually disaggregating accreditation from teaching that's great — but then places like StraighterLine really shouldn't be filling both those functions any more than state or incumbent private schools should.

  • vbt

    I still have my concerns about the quality of online education but the article touched on some really key points that Berin highlights.

    Timon, the problem is that current models used by established schools are not providing the same cost savings that StraighterLine is trying to provide. Berlin and the author are questioning the entrenched nature of the ivory tower and the governments actions to perpetuate a potentially outdated model.

    I agree that online education may serve best for introductory course with challenging material being taught more traditionally but the accreditation process prevents courses taken at certain institutions being transferred into a 4-yr institute. As noted in the article, the review done by Fort Hays was more stringent than what they would do for a community college yet the students/faculty continued to question the quality of the education.

    I think the line comparing the debt-fueled tuition hikes to that of the real estate bubble is spot on and again similar to real estate, this debt-boom has been fueled in large part by government-backed loans.

    Timon, your academic elitism “why should anyone get college credit for precalculus?” is a bit unfair. Their are plenty of careers that require a 4 year degree that precalculus would be sufficient math skills. You did not get credit at my engineering school for precalculus, but at the state school near by, math for teachers is plenty sufficient for early childhood education degrees.

    Frankly, i think this drive to educate everyone has given education institutions the demand needed to drive up tuition and entrench itself. Plenty of jobs that require a 4 year degree can be completed by someone with 2 years and some experience. Let's get back to the apprenticeship model in some professions; k8 education being one I really support.

  • mdb002

    Most universities already offer online courses and degrees. I am matriculated in an online masters degree at Johns Hopkins. I have taken online courses at UMass. The cost does not compare to $99 dollar a month (even at UMass with in state tuition), but the I can't imagine how many students need to enroll in a class to make that profitable. Maybe it is like the large lecture hall classes I took as undergrad, but looking back those weren't worth $99 a month. Anyway universities will not be caught flat footed with this (like newspapers, music, etc.), and the price competition is good.

  • http://techliberation.com/author/berinszoka/ Berin Szoka

    I reached a difference conclusion, Timon: that e-Learning services like StraighterLine are simply starting with the “low-hanging fruit,”the content that has the largest audience and that can be provided at the lowest cost. This is precisely the pattern we see in all cases of disruptive innovation: new entrants start by “cannibalizing” the parts of the established players' market that are most vulnerable to competition and use that revenue stream and the experience gained in developing it to move down George Gilder's “Learning Curve.” So if e-Learning is anything like these other industries, I suspect we'll see them provide increasingly advanced and niche coursework even as their costs fall radically. With further competition in the market, consumer prices will fall, too.

  • Timon

    I am not saying anything bad about StraighterLine's teaching model — my criticism of their offering precalculus applies equally to any school offering college credit for high-school subjects, or degree program requiring them. They sound like they do a good job at a lot of things, and the decline of academic standards isn't their fault. But they really shouldn't be bragging about a middle-age woman 30 years out of school, blowing through multiple courses in weeks, as proof that things are working (and I say this as someone who admires the hell out of older people who make their way back to school.)

    There are 3 main products in the current education market — 1) content or course materials including books and lectures, 2) personal instruction, and 3) diplomas, transcripts, ie accreditation or whatever you want to call the difference between following an OpenCourseWare class and getting an A at a city college. Right now you mostly have to get all three bundled, it will be a great thing if the internet disaggregates them and reconnects 3 with its original point of validating the effectiveness of actual learning. Ideally, no one would sell all three, you could for example get real specialization and efficiency of teaching from StraighterLine, and exams or validation from someone else. All I am saying is that if and when this change happens it is likely to come from public schools — I have done it, I am seeing people do it, and my fees have been less than $99 a month. I looked and as far as I can tell local Jr college adjunct profs make $90/hr, about $7000 for a 5hr/wk course between 40 students, so whatever subsidy exists is not hugely distortive, especially when there will be no janitor bills. These institutions get the issues of scale, they shouldn't be counted out.

    The bigger problem is that deep learning is not really the point of a lot of things that call themselves college degrees — many degree programs (teaching credentials, Education Ph.D.s, many business programs, communications) are like a metastasized traffic school, where the point is just to do the time and get through it so that you can prove something to some bureaucracy. You can't disaggregate learning from teaching and accreditation if there is no learning or teaching, and it is disappointing to see new efforts to offer the same kinds of classes as the straight-up frauds, spammers, and student loan launderers that have already set online education back years.

    vbt-

    Point taken about the teachers' math — a non-credit course in algebra and/or maybe one terminal analytic geometry and trigonometry class is fair enough. I agree in general that the push to get everyone into college is hurting both the colleges and the students — maybe the best outcome from StraightLine's innovations would be for colleges to use them or people like them for all the remedial and scut work and take the opportunity to discontinue the kinds of classes that average adults breeze through.

  • Ferguson

    I wanted to point out an interesting fact I personally noticed today. I'm a fifth-year engineering student who went to campus to check out book prices for my upcoming classes. There was a textbook offered for about $190 new, $140 used. And a third option… $150 for an “eBook.”

    With classes at $99 bucks a month, I could have a full courseload from StraighterLine at about the same quarterly price as the textbooks alone cost me in my current situation.

  • Ferguson

    I wanted to point out an interesting fact I personally noticed today. I'm a fifth-year engineering student who went to campus to check out book prices for my upcoming classes. There was a textbook offered for about $190 new, $140 used. And a third option… $150 for an “eBook.”

    With classes at $99 bucks a month, I could have a full courseload from StraighterLine at about the same quarterly price as the textbooks alone cost me in my current situation.

  • Name

    Some of us saw this coming for a long time. See this:
    http://www.ait.net/technos/tq_06/3perelman.php

  • Name

    Some of us saw this coming for a long time. See this:
    http://www.ait.net/technos/tq_06/3perelman.php

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