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Price Theory
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Question: Is the following true or false? Explain your reasoning.
If the quantity of higher education services supplied does not rise with the price of those services, i.e., if supply is perfectly inelastic, then subsidizing the demand for higher education services will primarily benefit universities and their employees.
READER COMMENTS
Matthias
Jan 9 2026 at 11:27pm
As usual with these problems, there’s not enough information.
We can make some extra assumptions, and then try to answer the questions.
First, let’s assume for the sake of simplicity that both quantity and quality are fixed.
Second, whether there’s any impact on university employees depends on the labour markets universities operate in. Eg even if an organisation is making money hand over fist, I would expect the wages of their janitors and cleaners to be set by the general market equilibrium for these occupations. (And similarly, even if the organisation has trouble making money at all, the janitors and cleaners won’t work for less than they can get elsewhere.)
For university workers who have fewer outside options in their chosen profession, eg like professors, the logic is different. (Universities might compete for professors, but in our hypothetical all universities have more or less money simultaneously. Professors could of course try to work as janitors, but that would usually involve a pay cut.)
Of course, in the long run high pay for professors will attract more people to become professors, lowering the equilibrium wage, even if the universities have oodles of money.
So overall, if you subsidise demand and supply is fixed, prices will go up and universities can make more money (assuming they are legally allowed to charge whatever they want to.)
Of course, the whole thing depends also on what demand is doing. If quantity demanded is also fixed, then customers will just pocket the subsidy.
David Seltzer
Jan 10 2026 at 10:37am
Matthias: Well explained, given your assumptions. You wrote, “Of course, the whole thing depends also on what demand is doing. If quantity demanded is also fixed, then customers will just pocket the subsidy.” Assume more large government subsidies are needed to help more people attend university. In that case wouldn’t total demand shift the demand curve up and to the left? Quantity supplied being fixed, the university would have to pay professors more or hire more of them to meet increased demand for constant university services. The university and its employees would benefit at the margin. But the money has to come from taxpayers whose power to consume, save or invest is reduced by the amount of the subsidies.
Tucker Omberg
Jan 12 2026 at 3:43pm
Most of your “uncertainties” are answered in the assumption that Supply is perfectly inelastic- in such a world universities supply a quantity of Q credit-hours of education regardless of the tuition that they receive. Yes, this is unrealistic, but it allows us to ignore any effects that the subsidy has on the operation of the University. They hire the same number of professors and janitors, teach the same number of courses, and have the same size classrooms whether tuition is $50/credit or $5000/credit. Under this assumption, the incidence of the subsidy falls entirely on the universities- the tuition prices paid by students rises by the subsidy. In a world of perfect inelastic supply, universities auction off a fixed quantity of seats to the highest bidder, so increasing every bidders wealth by a fixed amount will only result in higher winning bids.
Lynn
Jan 14 2026 at 11:24am
Since subsidizing demand is ambiguous, there may be at least two scenarios with different outcomes for the supplier (universities). If the subsidy effectively increases the income of the education consumers (say, Pell grants or subsidized loans), then the demand curve shifts to the right and price increases. Producer surplus also increases, and universities benefit.
If the subsidy is a decrease in the equilibrium price (e.g., direct state subsidies to state universities to keep tuition below market rates), then producer surplus for universities remains unchanged. It also creates a shortage because the price is below the equilibrium price. Now, state universities may have restricted admissions (instead of open enrollment, as when I was an undergraduate), and not all consumers of education benefit equally, since some cannot obtain subsidized tuition.
There is deadweight loss in both cases, as well as a taxpayer impact.
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