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The formula for making a good college investment

We’ve all heard some version of, “If you don’t go to college, you won’t get a good job. And if you don’t get a good job…” But is that actually true? Is college worth the financial cost?

Paul spoke with Peter Cappelli, a professor at University of Pennsylvania’s Wharton Business School and the author of “Will College Pay Off?” about whether or not one’s investment in college is worth the cost through a strictly economic lens.

Below, Cappelli spells out what parents and students need to know to make the best financial decision on which college to attend. The text of the following conversation has been edited and condensed for clarity and length. Watch tonight’s Making Sen$e segment on the subject.

Kristen Doerer, Making Sen$e Editor

Paul Solman: So what’s the difference between sending your kid to a school like University of Pennsylvania, which is private, and let’s say Penn State, which is public?

Peter Cappelli: There are couple of things on the cost side. The first one is that you’re likely to be able to get much better financial aid at elite schools. The evidence suggests that on average, for a kid who gets financial aid, the tuition difference is only $9,000 between a private and state school. The other two things that affect the cost is the school’s completion rates and how long it takes to graduate.

Paul Solman: Right, because every extra year is another year worth tuition, room and board.

Peter Cappelli: Right. And there are lot of things that the schools control that can affect completion rates. For example, how complicated are your majors? And do you actually have the resources to support them? And so the completion rates at a school like University of Pennsylvania is 98 percent in four years. Across the U.S., the completion rate is only 40 percent in four years. And if you look at the difference between private and public universities, private schools are about 10 percentage points better when it comes to completion rates.

Paul Solman: What’s the difference in terms of completion rates between University of Pennsylvania and Penn State?

Peter Cappelli: At Penn State, which is an elite public institution, it’s 65 percent in four years. At University of Pennsylvania, it’s 98 percent in four years. The kids might be a little different, but I think it’s also what the colleges do in order to make sure that the kids graduate on time. There’s a lot of support if you have trouble. There’s a lot of tutoring, coaching, and psychological programs to help. At some of the schools there are freshmen seminars, where it’s only other freshmen in a small class, and there is a real professor who is keeping track of you.

And another simple thing, which matters a lot, is that the better schools make sure you don’t make mistakes in elective courses. One of the problems with undergraduates is that they’re often overconfident in their abilities. And sometimes they take advanced electives that they’re not prepared for.

Paul Solman: So a parent who is trying to make a wise economic decision about a school for their kid should be looking at the graduation rate, the factors that go into the graduation rate, and what else?

Peter Cappelli: The cost, of course, matters a lot, but part of the cost is financial aid and avoiding too many student loans. We don’t pay enough attention to how onerous student loans are. Most of the student loans are at 7 percent interest rates now, and most of them accumulate interest from the day you take them out. There are only a few direct subsidized federal loans that wait until you graduate before the interest starts. I think most parents would flip out if their kid took out a car loan for $50,000 at 7 percent interest. But we sort of blithely sign away these loans at 7 percent for a long term, when you can’t even get out from under them if you file for bankruptcy. To put it in perspective, car loans are about 2 or 2.5 percent. Even the cheapest of the federal subsidized loans are about 4.8 percent now.

Paul Solman: But isn’t the return on investment demonstrably high? I mean all the data that I’ve ever seen is, you’re better off getting that college degree.

Peter Cappelli: Well, I think most of all the data that you hear people talking about is the difference between a high school graduate’s pay and a college graduate’s pay. It’s not that college graduates are making more money, it’s that high school graduates collapse. So what you really want to think about is, will you make enough money to pay off the cost of college? That’s the rate of return. And if you think that the chance your kid will get a degree is 50 percent, then that halves your rate of return right there. If you think it may take your kid six years to graduate, then the rate of return goes way down.

Paul Solman: So are you telling parents, maybe you shouldn’t send or help your kid go to college?

Peter Cappelli: The first thing a smart parent would ask is, “Is my kid ready to go to college?” If you send them to college, because you can’t think of anything else to do for them, then it’s probably not the greatest financial bet in the world. But I think what really bites is that over time in the U.S. we have made college way more expensive. It’s now about three times more expensive in real terms than it was in the eighties.

Paul Solman: When I went to college and graduated in ‘66, I knew exactly how much it cost, because I had a full scholarship. It was $1,450 tuition in 1962, and it went up to about $1,800 by the time I graduated.

Peter Cappelli: Well I did a quick calculation for the Wharton Business School and the University of Pennsylvania in general, and in the 1950’s you could work for about 30 to 40 weeks or so and make enough money with a minimum wage job to pay your college tuition cost. Now, you’d have to work for many years, I think about five, at a minimum wage job to pay off those tuition cost. And that’s assuming, you’re not paying living expenses, taxes or anything else.

So cost has gone up enormously, and incomes are roughly flat over that same period of time. So it’s a big expense for people. If your family doesn’t have a lot of money, do you take out a ton of loans to send your kid to college? You better think carefully about that. And where do you send them and to do what? It’s very possible that you will make a very poor investment. The folk at this company Payscale, which has calculated rates of return based on this data set of millions of people, found that in about a quarter of the colleges in the US, the degrees from that college earned a negative rate of return. That means, you’re never going to make back the money that you invested to go to college in the first place.

Paul Solman: What kind of colleges were these that earned a negative rate of return?

Peter Cappelli: They are small regional colleges for the most part. And the problem there is, people just don’t get through. Now some of that probably has to do with the kind of kids who go there. And some of that has to do with the fact that these schools probably don’t have the help to get kids through.

Paul Solman: So somebody would conclude that there is a one in four chance that sending their kid to a random school would be a negative investment.

Peter Cappelli: Yeah. Right.

Paul Solman: So what’s the best thing they can do?

Peter Cappelli: Well in terms of the rates of return by college, the colleges that do best overall are the ones that don’t have people who go into low wage jobs, right? These are colleges with no social work and teaching majors, so they’re engineering schools for the most part. Now that doesn’t mean engineers make more than investment bankers make, but it means that they don’t have any graduates going into low wage jobs. So on their rankings, the schools that do the best are state universities, like the Colorado School of Mining and Maritime Universities, because these colleges are low cost and they provide majors and degrees in technical fields. And some of them are places like MIT that provide a lot of financial aid and their graduates get pretty good jobs. But most importantly, few of their graduates take really low paying jobs.

Paul Solman: So I would be better off sending my grandchild to the Colorado School of Mining than say, Yale or Harvard?

Peter Cappelli: If all you’re concerned about the average rate of return on the investment, then yes. And the reason is, they’re cheaper. But I think the real story for the average parent is that they don’t have to worry about the average. Parents can figure out where are they in the income distribution. What kind of financial aid can they get? So for example, if you’re from a family that doesn’t have a lot of money, Yale could be a tremendous financial investment, because it doesn’t cost you very much to go there with financial aid. They are need blind and they have a lot of money. So they can provide a ton of financial aid for kids whose families are, not just poor, but middle class even. Deep pockets matter.

Paul Solman: OK, so what major should a student go into? Coding is all over the place now as the entry level job to really good career tracks.

Peter Cappelli: Well, the important thing about coding and a lot of IT work to remember is that you don’t need an IT degree to do it. And more generally, one of the things that employers seem to say is that they’re not so concerned about your course work. What they really want to see is experience. If you’ve done some coding, you took a couple of classes in college, maybe got an online certificate in coding, but you’re a philosophy major and you can demonstrate that you have done coding, you might do very well in the job market.

Paul Solman: Is there anything else that parents who are trying to advise their kids should know?

Peter Cappelli: I would be very concerned about the marketing that is directed at kids and their parents with job titles as course descriptions and degrees—a degree in Healthcare Records and Administration or something like that. And you see advertisements for programs like this in public transport, everywhere. The big risk with such programs is that the jobs might not be there when you graduate, and some of those fields could disappear with the change of technology. And the issue there is, what have you not learned when you spent your college years learning how to do Healthcare Records Administration?

This is even true for programs that have a lot of internship opportunities. They sound great, but as a parent you’re paying tuition for your kid to do free work for some employer. And tuition’s a pretty expensive way to get unpaid work experience. So I would be very concerned about the vocational majors and degrees that sound like job training. I think the odds are that they’re going to be useful for the kid in the long run are poor.

Paul Solman: So what would you do?

Peter Cappelli: So there are lot of these majors and degrees which look like job titles, like golf course construction or turf engineering or casino construction or sales. There are actually degrees you can get in sales, like pharmaceutical sales. They are highly specific, and the question you want to ask yourself is, “What happens if nobody is hiring in pharmaceutical sales the year I graduate?” What can you do?

There was an interesting study in the UK that compared kids who graduated from England, which has a college system where you do three years of highly focused education, to those who graduated from Scottish universities. In England, if you are a chemistry major, you only take chemistry classes, while in Scotland they have a system more like the liberal arts system in the U.S. with broader courses. And one of the things they found is that after graduation, when the English kids changed fields, they really stumbled in comparison to the Scottish kids. First they changed fields more often, and they were less likely to stay in field that was their major. They really had a hard time transitioning to a new field likely because they didn’t have that kind of breadth of college experience.

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