On Sunday, David Willetts, the universities minister, claimed that a graduate tax is “by far the best option to go for in tough times” when looking to ensure university teaching and research funding is maintained.
Presently, non-medical undergraduate students from middle-income backgrounds pay between 15 and 30% of the costs of their degrees. Taxpayers and university endowments pay the rest and subsidise interest on student loans. This means that undergraduates pay far less than the full cost of their university education. When people can buy something for much less than it actually costs, they tend to buy too much of it. Since 1980 the proportion of people going to university has more than doubled. Many students have gone to university but gained degrees which will not increase their future income; at the same time they have spent three years out of the job market losing a small fortune in forgone wages. A ‘double-cost’ for the students and taxpayers.
Replacing student fees and loans with a graduate tax goes too far in the opposite direction. If the tax is implemented as simply as possible, an individual will pay an additional flat rate (say 3 to 5%) on top of their income tax if they go to university. A tax like this would distort the higher education market by encouraging people not to go to university and so avoid the tax altogether. This could impact especially badly on school leavers from poorer backgrounds.
When university-leavers go into graduate jobs the tax would encourage them to work less hard so they pay less in tax. UCU estimates that a graduate tax of 5% would leave the average secondary school teacher about £46,000 worse-off over 25 years. People could end up paying much more than the value of their university education in graduate taxes over their lifetime, discouraging them from going to university. This would mean too few people go to university, decreasing their future earnings and holding back economic growth.
Additionally, people may go to university, enter high-paying jobs and then emigrate to avoid paying the tax. The Student Loans Company has had a tough time getting loan-repayments from emigres so enforcing a graduate tax internationally will be difficult at best. The result would be a state which pays for most of the university education of high-earning emigres, but which cannot recoup the money and whose policies (by causing the emigration of high-earners) decrease future economic growth.
A more complex graduate tax could be implemented, one where different percentages of income are paid according to university attended, degree taken and income earned. This might lead to a better- targeted tax but it would have much higher administrative costs and would cause even more distortion in the higher-education and job markets.
In fact, the idea of a graduate tax needs to be scrapped and instead Willetts should enact James Stanfield's proposals set out in The Broken University.