What sector of the American economy has faced rapidly rising costs for several decades, with third parties, including government, paying most of the bills? Health care? Sure, but also higher education. And the economics of rising costs are likely to force radical changes at many of our colleges and universities.

When I entered Northwestern University in 1958, the tuition was $795, about two months pretax income for the typical family. This fall, the tuition for new students is $22,392, or almost six months pretax income for the typical family. The burden of attending Northwestern has tripled. Tuition increases at public universities, while smaller in absolute dollars, mirror those of private schools. In the past decade and a half, tuition costs have increased 195.3%, while the overall consumer price index has risen just over 63.3%.

Universities are labor-intensive places, and they have become more so. The number of faculty members has risen slightly faster than enrollments, and there has been an explosion in nonteaching staff. In the fall of 1976, universities nationwide had 31.5 administrators for every 1,000 students. By 1993 that number had grown to 51.4. By the mid-1992s, only about 35% of university employees actually taught students.

Assuming the quality of education and research has remained constant over time, there has been a significant decline in labor productivity in higher education—more people now do the same amount of work. Actually, they may do less work. At a typical state university, faculty members teach 250 hours or so a year: their counterparts in 1960 spent far more time in the classroom. Most of us today teach the same way Socrates did more than 2,300 years ago, albeit not as well. What other profession has had absolutely no productivity advance in 2,300 years?

A typical teacher at a medium-quality state university may spend 650 hours a year directly on the teaching function (including preparation, grading papers and advising), for perhaps $65,000 in salary and benefits, or about $100 an hour. Universities can afford such expensive labor in large part because of government subsidies. Students who are sensitive to price get scholarships, really a form of price discrimination. Meanwhile, costs soar for those paying full price.

But things are changing as entrepreneurs see the possibility of turning a profit while offering a good education at a competitive price—even without subsidies. A for-profit school can hire people whose main job is to teach, for much less per hour. It can gain efficiencies through technology and have fewer administrators. The University of Phoenix, now in 12 locations and on the Internet, is one of America’s largest universities. And innovation isn’t confined to the private sector. Fifteen governors have formed the Western Governors University, an institution that will award credit based on life experiences.

The traditional university will not disappear. Universities perform important research functions, and graduate education will continue to require expensive direct contact between students and faculty members. As a teacher, I find a small class of 10 students preferable to a class of 75 with some of the students learning via computer or television. As an economist, however, I must acknowledge that the added benefits of close personal instruction don’t always justify the higher costs.

How will universities respond to an erosion of market share? No doubt some will try to quash the for-profits by denying them accreditation and respect. They will lobby Washington for more money. But eventually, they will probably grudgingly engage in meaningful cost containment. Professors will teach more and bigger classes; tenure will either disappear or be accompanied by lower salaries; nonteaching staffs will be slashed; labor-saving technology will expand.

Universities have an exalted mission, but as they become rich and bloated, they appear more arrogant and greedy—a special-interest group more interested in dollars than truth and beauty. For-profit schools and experiential learning organizations may do to universities what health maintenance organizations have done to medicine. If so, the universities will have only themselves to blame.