I was telling my friend CJ about a presentation I made yesterday to the trustees of a school. The proposal was to hand over the management of the school to a firm that will manage the school for a fee. One of the trustees had brought up the point that the firm was a for-profit organization and therefore it would be improper for the school to be associated with it. CJ’s reaction was, “That’s the basic problem with the whole education system, isn’t it?”

“What’s the problem?” I asked.

“That for-profit firms are disallowed in the education sector,” CJ said. “What we chiefly need is the commodification of education.”

“Is there such a word as ‘commodification’?” I asked.

“Yes, look it up. Education has to become a commodity for the benefit the unwashed masses,” he said.

“Care to elaborate?” I said.

“I was coming to that,” said CJ. “Generally speaking, when goods and services are first invented, they are produced and consumed in small quantities. The cost of production is high and therefore only the rich can afford them. Knowledge or the technology for production is not widespread, and so only a few firms operate in the market. This means limited competition in the market, and therefore the firms price their product or service significantly above the already high costs. They make economic profits.

“This happens in the early stages of the market for any particular good or service. Then with continued production, the costs start coming down and production process knowledge diffuses through the economy. More firms enter the market seeing that there is profit to be made. This has the effect of increasing supply, reducing costs, and with competition, prices fall close to the falling costs. What used to be a high priced good affordable only to the top of the economic heap soon becomes a commodity that the unwashed masses easily afford.”

“Nothing earth-shatteringly startling about that,” I remarked.

“True but the implications are indeed earth-shattering,” said CJ. “First, note that it is because of the possibility of profits that firms engage in research and development to reduce their production costs. Second, profits made by existing firms lure other firms to enter the market. Competition is never good for any individual firm but is good for the industry and for society.

“The producers and consumers have totally opposed interests when it comes to competition. Competition is never good for producers, while it is the best thing since sliced bread for consumers. The outcome of intense competition is the commodification of the good or service – which is what producers fear and consumers pray for.”

“So what does the commodification of education mean?” I asked.

“Education is no different from any other service in the sense that the same logic applies to them. Initially education would be produced by only a few firms at a high cost and sold at a profit at a high price. Given a large enough market — which in India’s case it is so — and free entry into the market, other firms will enter enticed by the above normal profits (which we call ‘economic profits’ or rents), and drive down the market price even as the quality improves. This increases social welfare.”

“But if any and all for-profit companies are allowed freely into the market would they not just produce bad education and fleece the public with high priced advertizing. Society cannot bear to leave education in the hands of profit making money grubbing capitalist firms!” I argued.

“What makes you say that?” said CJ. “The free entry of for-profit money grubbing firms has been beneficial for the public generally. In fact only when entry is not allowed, only then does the public suffer.

“When the government had a monopoly on domestic air travel, the public suffered. Similarly for telecom. Remember when the waiting time for a 2-wheeler was close to a decade? Shoddy services at high prices still persist in areas where the government restricts entry.

“Commodification happens in even those industries where there are only a few competitors. The greatest examples are lying close at hand. All electronic equipment uses processor and memory chips – they are commodities. What’s important is that there is a standard. This standard does not have to be established by the government. The industry itself figures out the standards. Once that happens, it is in the interests of the firms themselves to stick to the industry standards.

“I am sure that if free entry by for-profit firms were allowed in India, supply of education will increase, the quality of education will go down up, and education will become more affordable. Just like the driver and the cleaning person can now afford a mobile phone, while in the good old days only the rich and the influential could get a phone connection.”

“So why do you think that free-entry is not allowed into the education sector in India?” I asked.

“For the same reason that no producer actually wants any competition in the market. Monopolists hate market competition more than anyone else. The government controls entry into the education sector – and that makes them the super-monopolist. Like any monopolist, the government extracts huge rents. By restricting supply, the monopolist can ensure high prices. This the government extracts – but through the intermediary of the licensed provider of education.”

“But commodification conjures up images of very low quality and no distinguishing features. Would you like your kids to be fed a commodity?”

“Actually, commodification of education would make education quality better, not worse, after controlling for prices, availability, and standardization,” CJ said. “For instance, an IIT education is not a commodity by a long shot. How many people get in? Around 8,000 out of a pool of 320,000 who appear for the admissions test.

“The cost of an IIT education to the student only appears to be affordable. Actually, a quick calculation shows that to society, the total cost of an IIT education is of the order of a quarter million US$. That is clearly unaffordable for Indians — which is exactly why we get only 8,000 or so IIT engineers every year.”

“How so?” I asked.

“Well, 40 students appear for the exam, only one of whom gets into an IIT. On average they spend Rs 2 lakhs for coaching. So the social cost of coaching per IIT seat is Rs 80 lakhs. This is a deadweight loss. The IIT education itself is then subsidized by the public. This amounts to another US$100K or so.

“If good technical education becomes a commodity, then the quality-price ratio will become high. But for this to happen, entry barriers to technical education has to be totally removed.”

“The fear is that with free entry, fly-by-night operators will swamp the system,” I said.

“That is an unfounded fear, if fear indeed it is. My sense is that the fear is that without the government’s monopolistic control of the sector, the government will lose one of its greatest rent-seeking devices. Liberalization of the education sector is not allowed because with it will go the rents that the government currently enjoys.

“The commoditization of education is the only hope that the hundreds of millions of young Indians have. That, alas, is not in their future. So it is going to be another few generations sacrificed at the altar of greed and stupidity.

“It is all karma, neh?”

Other posts featuring CJ:

How to Study Economics Sept 2005

The Future of Energy Sept 2005

The Ownership Society Oct 2005

Do the Taliban Have Buddha Nature? Nov 2007

Of Lavatories and Laptops Feb 2008

A Solar Energy Conversation with CJ Nov 2008

The Sacred Ritual of Elections Mar 2009