Should for-pro -MPRA Paper 15099

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Munich Personal RePEc Archive

Should for-profit schools be banned?

Chumacero, Romulo and Paredes, Ricardo

Universidad de Chile, Universidad Catolica de Chile

12. September 2008
http://mpra.ub.uni-muenchen.de/


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Should For-Profit Schools Be Banned? *

Rmulo A. Chumacero Ricardo D. Paredes

Abstract

This paper uses different methods to evaluate the performance of students of

public, subsidized, and private schools; distinguishing among for-profit and non-

profit schools.

Keywords: Voucher System, Education, Non-profit, Chile.

JEL Classification: C21, H52, I22.

This Version: September, 2008

* We would like to thank the participants of the 2008 Annual Meeting of the Chilean Society for


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Alvy Singer: [addressing the camera] There's an old joke - um... two elderly

women are at a Catskill mountain resort, and one of 'em says, Boy, the food

at this place is really terrible. The other one says, Yeah, I know; and such

small portions.

(Annie Hall, 1977)

1 Introduction

A major debate followed the Ideological Congress held by the most important

political party (Christian Democrats) of Chileans ruling coalition (Concertacin)

on September of 2007. By a wide margin, it approved a proposal to eliminate asubsidy through vouchers to for-profit private schools.

Due, at least in part, to this proposed resolution, the ruling coalition and

the opposition agreed on a wide range of proposals for reforming the educational

system, none of which explicitly forbid for-profit schools, but that imposed further

restrictions on them.

At the moment of writing this paper (July, 2008), the proposed reform is

under discussion on the parliament, accompanied by protests by groups of students

and teachers unions that ask for banning for-profit schools.

Making for-profit private schools ineligible to receive vouchers would be a

radical departure from the main ideas behind the pioneering reform that

introduced the voucher system in Chile in 1981.The reform entailed transferring public schools to municipalities, thus

decentralizing primary and secondary education. Since then, school administration

has been carried out by both public (municipalities) and private providers (referred

d i i ) h i f h i f d f h d i


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international comparisons, results in terms of quality have been rather

disappointing.

The educational system comprises three types of schools:

Public: Administered by municipalities and financed primarily withvouchers.

Subsidized: Administered by private institutions and financedprimarily by vouchers (with small additional payments made by

parents).

Private: Administered by private institutions and financed exclusivelyby payments made by parents and private transfers.

Private administrators in subsidized and private schools may or may not befor-profit organizations.

In terms of enrollment, the share of students attending private schools has

remain virtually unchanged since 1981, but the enrollment in subsidized schools

administered privately has increased steadily; thus, decreasing the share of

enrollment in public schools (Paredes and Pinto, 2008).

The argument behind effectively banning a profit motive in the education

industry (as opposed to, say, the ice cream industry) is not clear. Although the

academic debate regarding the superior performance of private schools with respect

to public schools is not settled, most of the empirical literature finds support for

it.1 However, to our knowledge, there is no evidence that supports the claim that

non-profit schools perform better (or worse) that for-profit schools.Even in that case, as altruism is not at free disposal, in the absence of a

profit motive, the number of non-profit schools will not necessarily increase in the

amount necessary to absorb students of for-profit schools. Furthermore, some


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Revealed preferences suggest that parents that choose to send their children

to for-profit schools consider them more attractive than public schools or non-profit

schools, as both alternatives could have been chosen instead.

This paper uses several econometric specifications to quantify the differences

in the performance in standardized tests for students of different types of schools,

stressing the differences between for-profit, non-profit and public schools. The

paper also provides some additional considerations that should guide the debate

regarding this matter. The paper is organized as follows: Section 2 provides a

simple theoretical framework to understand the differences between for-profit and

non-profit private schools. Section 3 describes the construction of the data-set used

in Section 4 to conduct different econometric exercises to test the differences on theperformances of students of different types of schools. Finally, Section 5 concludes.

2 A (very) Simple Model

Unlike other products, education is provided by a variety of agents (public andprivate). Furthermore, private providers of education differ significantly. They differ

on dimensions such as the number of schools they operate, the characteristics of the

education they provide, the types of students they attract, the values or

competences they supply, and, of course, if they explicitly pursue a profit motive or

not. Such heterogeneity exists because this market values diversity.

Rose-Ackerman (1996) considers three interrelated functions that non-profits

may serve: First, due to monitoring costs, donors may prefer to sponsor non-profit

firms (Easley and OHara, 1983). Second, due to information asymmetries regarding

the quality of a service, donors may prefer to sponsor non-profits as for-profits may


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government in the provision of some public goods, as taxes will not generally reflect

the benefit from the service (Holtmann, 1983).

This section derives a simple model to evaluate some of the possible differences

between for-profit and non-profit schools.

Let us start by considering the problem of a for-profit school. The objective

function of the administrator is to maximize:

( ), ,pf q x rq sx = (1)

where p is the price charged for each student and ( )f corresponds to the number

of students. This number is determined by two factors that the school chooses. The

first, q, represents the quality of the service provided and is summarized in, say,

performance in standardized tests. The cost of producing one unit of q is r. It isassumed that 0.qf >

The second factor, x, summarizes other characteristics of the school that

parents value that can be interpreted as a qualitative feature of the service provided.2

The price of this factor is s.3 It is assumed that 0xf > if 0,x x< 0xf = if 0,x x=

and 0xf < if 0.x x> This implies, that 0x is the optimal level of xas far as the

parent is concerned.

The administrator maximizes (1) and arrives to the standard first order

conditions that equate prices of inputs to their marginal productivities:

0.

0

q

x

pf r

pf s

=

=(2)

Note that the only case in which it is optimal to provide 0x is ifs=0. Whenproviding xis costly (s>0), the school will provide a level ofxthat is lower than 0.x

On the other hand, if the school receives resources for providing x(s


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Furthermore, the firm will demand less qand xwhen their respective prices

increase:

( )20, 0, = .qqxx qq xx qx fq f x

p f f f r s

= < = <

On the other hand, the signs of

qxfq x

s r

= =

depend on the sign of .qxf Ifqand xare complements, both derivatives are negative.

Finally, how qand xrespond to increments in p can not be determined without

imposing further structure. However, it can be shown that at least one of them will

increase and most likely both.

Next consider the problem faced by the non-profit school. FollowingSteinberg (1986), we assume that it maximizes:

( ) ( )[ ] ( ) ( ), 1 , ,G k k pf q x rq sx k pf q x = + (4)

where 0 1k< < is a fixed parameter. Note that with k=1, (4) collapses to (1) and we

are back to the case where the firm maximizes profits. With k=0, the first term drops

out, and the firm maximizes gross revenue.4

Assuming the same technology ( )f as above, the administrator maximizes

(4) and arrives to the following first order conditions:0,

0

q

x

pf kr

pf ks

=

=(5)

which appear to imply that ifrand sare positive, this firm would provide more q

and xthan the for-profit firm. The sufficient conditions for maximizing (4) are also

given by (3).

It can also be shown that


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0, 0

,

qqxx

qx

kfq kf x

r s

kfq x

s r

= < =

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Should for-pro -MPRA Paper 15099