The University of Chicago Law School Faculty Blog

The Rage Over Conditional Scholarships

The law school world has been abuzz since an article in the Sunday NY Times, two weeks ago, exposed the practice of recruiting new law students with financial aid, but conditioning the continuation of scholarships on good grades. Students were said to overestimate their chances of obtaining these grades, and then struggling with the financial burden of law school. A “smoking gun” was the fact that, given law schools’ grading curves, a substantial percentage of scholarship recipients could not possibly obtain the required grades. The article probably overestimated the number of law schools with such policies, but the issue is interesting, and there certainly are law schools where every scholarship is conditional on future grades – that only half the class or less could obtain. Admissions deans around the country now report receiving inquiries from lawyers involved in the ABA and from other organizations looking to define new rules, or perhaps best practices. 

There is no need to run through the obvious libertarian response that prospective students, and especially the subset offered scholarships, are smart consumers who can and do understand exactly what is being offered. After-the-fact disappointment should not always translate into before–the-fact-regulation, especially when it is perfectly rational for some or many students to accept the offers sent their way.  Incidentally, or by way of disclosure, I am fortunate enough to be at a law school that does not put this pressure on scholarship recipients (more on that, and the claim of good fortune in a minute), so I have no direct reason to favor or disfavor the current practice.

There are, however, at least two points missing from the current news coverage.  The first concerns the strategy of schools that engage in the criticized plan. Imagine an elite law school that offers $x/year for three years to an applicant, though the x will vary according to the student’s need and the school’s own calculation of its need and its competition. Schools are aware of the US News rankings and the impact of inducing high-number applicants to attend.  Occasionally, schools offer $y for one year, figuring that summer jobs and other things might help pay for later years., but three-year scholarships are common at elite law schools. Loans are, of course, also in the picture. But what about a school, often not a super-elite and well-endowed one, that offers $x per year, conditional on a 3.2 GPA? Put bluntly, the student will lose the scholarship if the student is not near the top of the class. My interpretation of this strategy is that it does not so much set out to fool customers as it tries to deal with the problem of transfers. The strategy might as well be described as follows: We will discount your first year tuition by $x, and then if you earn good grades you will be tempted to transfer to a higher ranked school. (Some schools lose a significant percentage of their top students this way.) We want to keep you for your second and third years, and so we will offer you a scholarship to stay with us rather than to transfer away. But instead of being so crass, and waiting for you to threaten to transfer, we will save transaction costs for both of us, and promise a scholarship if you have the sort of grades that facilitates transferring. Put this way, I think the strategy much less likely to raise objections.

Second, this interpretation of what is going on in the market explains, if that is the right word, why the elite schools do not offer similar, contingent scholarships. It is not just that, if they did so, risk averse students would accept unconditional offers, which they could surely garner in the present competitive environment, but also that the elite schools are less fearful that a large number of students will transfer out after the first year. Note that the scholarship itself discourages transfers. A scholarship recipient who transfers from any school, but even an elite school, will lose the scholarship from the first school and be unlikely to gain a scholarship at the new school. This is because the student is “less valuable” to the second school inasmuch as the rankings do not incorporate information about the GPAs of incoming transfers. It is only those incoming, first year numbers that are oh-so-important. Regulators and well meaning organizations should probably stay clear of this subject, unless they are sure of what they are doing.

The Adjustment Bureau

Spring break is for grading exams but also for skiing and movie-going. My bad judgment was to believe some of the good reviews garnered by The Adjustment Bureau. It's an inept movie that begins with a clever idea but cannot figure out where to go. The conceit, based on a Philip K. Dick story, is that there is a plan for each human, and that when any of us drifts from our plan, a small adjustment is administered by overworked angels (who circulate among us in 1960s’ fedoras and suits) in order to nudge us back on our intended paths. At the start, an angel falls asleep and misses the assigned moment to nudge Matt Damon away from a distracting Emily Blunt, and then our hero proves too headstrong to be nudged back to his path, which involves a rising political career. He discovers the existence and ways of the Adjustment Bureau and rebels against it, so that he and his not-so-intended might live happily ever after. At one point he asks a middle-management angel about the loss of free will and is told that "we" tried that with you guys for several long periods, but each time you botched it (most recently with world wars, depressions, and a holocausts), and so here we are. 

The film is not without its charms.  The angels cannot function without their hats. I took this to be a cute joke about head coverings in some religions and bare heads in others. Indeed, an important angel wears a hat and a scarf - a fun tallit, or an even better, maniple joke. As the film wandered toward its predictable conclusion, I found myself wishing that Damon had asked a better question. Every observed adjustment was a mishap. The adjuster, or angel, tries to cause a coffee spill in order to get a character to head home. A dancer falls and sprains an ankle. Phone lines go dead. Damon is prevented from escaping by an administered trip in a parking garage, and he falls flat on his face. A car crash is summoned to prevent him from finding his love interest. We learn that his father and brother were killed in a car crash in order to adjust Damon's political career. Why, he might have asked, do you guys always use sticks instead of carrots? Why spilled coffees and car crashes instead of lucky coincidences, lottery winnings, and other goodies?

The larger, intellectual question about organized religions is why some encourage humans to fear higher power while others focus on rewards (and others a mix).  The question is an important one for legal systems, and a rich academic literature puzzles over the use of subsidies and taxes, rewards and fines, and more. If the message of the movie had been that a system of behavior control that relies only on penalties is inferior to one that cleverly mixes penalties and rewards, after taking moral hazards and baseline considerations into account, then it might have been a worthy film. 

And then there is the question of why we go to bad movies, and what might be done about that. Films are reviewed, by professionals and by acquaintances, but of course not everyone has the same taste as the reviewer. Netflix famously tackles this with its algorithm, recently improved in response to a substantial prize. It assumes, more or less, that each of us has different but fixed preferences. A quibble about that algorithm is that it is account-specific, rather than person-specific. A family rents movies and then rates the movies in order to help determine Netflix's recommendations for further rentals. Netflix uses the aggregated information to recommend movies to all its subscribers. The first point is that the system might be improved if different members of the household had different rating accounts. The second point is to puzzle over the difficulty of developing such algorithms and recommendations for movies while they are still in theaters. Netflix takes on the easier task of predicting tastes based on a very large number of observations – including the target movie itself. If many viewers submitted their ratings during the first weekend of a movie's run, it is possible that those who waited just a week (or one evening?) would learn a good deal about whether they would like the movie in question. Unfortunately, it is difficult to charge for such a service, and no studio or chain of theaters has much of an incentive to sponsor this pooling and application of information. But given the progress we are making with information markets, and smartphones as networking devices, we will get there one day.

Taxing Tuitions

The City of Pittsburgh is preparing to approve a 1% tuition tax on students attending college in that city. the tax would raise about $16 million and, in a a classic public choice move of identifying "winners" in order to garner political support, the tax is initially earmarked to pay pensions for retired city employees. Other cities have threatened such taxes - or, more directly, they have threatened to extend their property taxes to some nonprofit organizations. In response some universities (much larger property owners than museums and even churches in these cities) have agreed to make lump-sum payments to offset the presumed cost of firefighting and policing. My guess is that the tax will be imposed, challenged in court but not defeated, and then a compromise will be reached when one of the large universities next undertakes substantial building or expansion. At that point the university will have bargaining power - whereas at the moment the universities are fixed in place and vulnerable.

But what is the right result? The $16 million estimate suggests something like 50,000 students. Those who live off-campus, and their teachers, and the staff needed to support them do of course pay property taxes, income taxes, sales taxes and amusement taxes exactly as do other residents and visitors. Indeed, a hefty tax would probably have brought about a smaller higher-education sector in Pittsburgh, so that the city has benefited in some way from its colleges. To the the extent that the property tax is traditionally thought of as the means of financing public schools, undergraduates do not use that service at all - and the tradition, if it is just that, of property tax exemption is appropriate. Of course, the property tax is not exactly a user fee for the school system; many residents have no children or move to Pittsburgh after their children are grown (well, not many, but perhaps one or two). Most of the colleges finance their own police departments, though they can also call on the city's police. A fair assessment of the drain on public services would probably yield a number much less than the 1% tax, but the same could be said of other subsets of residents.

A better way to think of the issue is probably to imagine turning time back and having jurisdictions bid, or otherwise strike long-term deals, with entities. Some might charge for the right to build or to enjoy tax-free status; others might pay museums or universities to open in their midst because of the jobs, tourism, or other benefits associated with them. Universities would then choose among the packages of services and charges (or subsidies). But it is too late for that. Now the universities have substantial investments, and are among the least mobile of employers. Their physical plants are not easily sold to other taxpayers. They might have protected themselves by gaining charter protection, or contractual protection, especially before undertaking substantial expansions. Alternatively, they have been forced to acquire political influence, in the manner of other interest groups. Their tax-exempt status does, however, put them at a competitive disadvantage in this regard, as they are not permitted to engage in direct political activity. They can argue their case(s), but they can not support particular candidates or parties.

If the city's maneuver is a product of unusual financial stress, as appears to be the case, then the universities might do best to bargain now. In return for agreeing to make modest payments for "services" (based perhaps on a formula that took their own expenditures on police services into account, especially insofar as these provide externalities benefiting the city), they could secure long-term agreements capping the tax or the payments.

Finally, we can see the tuition tax as much more clever than a lump sum payment for services or a removal of the property tax exemption.Of these, only the tuition tax distinguishes colleges from museums and from churches. The city can be seen as arguing that it, along with many other jurisdictions, already imposes sales taxes on amusements and other things that straddle the line between services and products. A modest sales tax on tuitions - and on museum entry fees - is thus rather clever. But can taxes on temple dues and pew fees be next?

Dean Levmore Early Career Quiz

When I arrived as a student at the University of Virginia Law School in the fall of 1982, Professor Saul Levmore was already an institution, though he had joined the faculty there only two years earlier. On Friday, September 12, 1980, the student newspaper at the Law School, the Virginia Law Weekly, had run an article about the school’s newest faculty member. In honor of Dean Levmore stepping down this month to rejoin the faculty, after eight years of sterling service, I offer a short quiz based on that article to test your knowledge of the early career of our great Dean.

Law School Costs at the Margin

Yesterday, the GAO released a report, reported on in the Chronicle of Higher Education, finding that the rising cost of law school was attributable to rankings and competition, rather than accreditation. Critics of the American Bar Association's accreditation scheme had pointed to accreditation requirements as the cause of increased costs. The report is based on surveys of law schools, and it concludes that although some critics had claimed that accreditation standards were a major factor in the cost of law schools, "officials for more than half of the ABA-accredited schools we spoke with stated that they would meet or exceed some ABA accreditation standards even if they were not required." The report and the conclusion miss the point.

When we say, for example, that obesity is the cause of higher medical costs, we do not mean that with no obesity there would be no visits to the doctor. Rather, we mean that it is an important explanation for varying costs, or that it is a controllable cause of higher costs. It is true that competition has raised the cost of legal education, and US News rankings, by spreading a certain kind of information has intensified this effect. Thus, a school will rank higher if its incoming LSATs are higher, and this causes schools to offer financial aid to attract high-LSAT applicants (even beyond any pre-existing preference for those students) because with these students in place the ranking will improve, which will in turn attract better students (perhaps at lower cost eventually) in the future, because on average students will prefer to go to higher ranked schools. The most obvious variable that affects costs is expenditures. The rankings give points for greater expenditures per pupil (on grounds that higher spending is likely correlated with a better education or perhaps a plusher environment). This encourages expenditures for the same reason.

But the costs that can be traced to competition ("come to my law school we have smaller classes, our own swimming pool, and subsidized public interest programs") are there, for the most part, in the absence of regulation. If a school competes by exceeding 80% of the accreditation requirements, it might still object to having bookshelves that are not needed, assistant deans who fill out required reports, and faculty or non-faculty who are tenured not because the school thinks that tenure is the right way to attract talent but rather because tenure was required by the regulators. In this as in so many other things, it is marginal analysis that matters. On the margin, ABA regulations might raise costs; evidence that something else, like rankings or competition, matters more, is a bit beside the point.

Why Your Gadget’s Maker Does Not Help You Catch a Thief and Why “Kosher” Does Not Normally Encompass Righteous Behavior

Amazon and its Kindle made the news again, this time because some users were furious that they did not get more help when their e-book units were stolen. For those who do not keep up with this technology, a Kindle's owner can buy a book or other content and have it downloaded to the unit by way of a wireless phone-like connection. Thus, each unit is identifiable to Amazon, and the firm could at least refuse to sell content to a wrongful owner of a Kindle. The Kindle would then be of little value to the user because one could read only previously, and rightfully, downloaded material. If my cell phone is stolen, the carrier is happy to turn off the phone but not to disable that unit if a new SIM card is installed, but that is because it does not expect the new “owner” to pay the bills. Amazon is accused of seeking to gain from sales of content to the new owner. Similar policies are apparently deployed by Sirius radio and by AT&T with regard to its iPhones.

Amazon says that it will help locate the missing Kindle only if it is contacted by a police officer “bearing a subpoena.” Why would this be? Would we not pay more for devices that could easily be disabled if lost or stolen, for then they would be stolen less often and of greater value to us.

I think Amazon has unstated reasons for its policy. The firm does not wish to be in the middle of squabbles about ownership. I might have sold you my Kindle, and then found your payment dishonored. A couple might split up and dispute ownership of their beloved Kindle. In general, firms do not want to be in the business of adjudicating of property rights unless they can profit from it. The price of the disabling function might be too high, because the process will be overloaded with disputes rather than plain thefts. Or at least this is a plausible explanation; I note that cellphone carriers in other countries occasionally have different policies.

There are other areas of law and business where we find similar phenomena. One of the most interesting examples is where morals are supposed to enter business calculations. Consider the situation where a kosher caterer fails to perform as promised, and essentially misappropriates a substantial deposit paid by X. X can take the caterer to court, but this is an expensive process. Instead, X appeals to the certifying authority and says, essentially, “you should deny certification to this caterer because it is a wrongdoer, and “kosher” should mean more than the technical requirements of ritual slaughter and so forth.” The certifier will normally refuse to be involved. I had reason to inquire about this recently and learned that some very strict certifiers would refuse, for instance, to certify a candy bar that had a picture of a naked person on it. The certifier finds the immodest and “wrongful” picture disqualifying even though the objection is not about the ingredients in the food. The difference is that the nudity is easily and objectively verifiable, and of course offensive to the certifier. On the other hand, the misappropriated money is disputed, and the certifier cannot easily determine the facts; it simply does not want to be in the business of adjudication.

 

Student Blogger - Summer WIP: Levmore Presents on Interest Groups and Incrementalism

The old saying tells us you have to walk before you run. In American politics, there is a strong bias in favor of incremental change -- taking small steps to learn what works and what doesn't rather than attempting to enact radical reforms in one fell swoop. In his latest paper, however, Dean Saul Levmore suggests that there might be some hidden dangers to the incrementalist model. Not always a cautious avenue towards prudent changes, incrementalism can act as a cover for powerful interest groups to achieve socially disoptimal outcomes through divide and conquer strategies.

Before Dean Levmore makes the bulk of his argument, though, he takes aim at the core mythos that gives incrementalism its positive aura: that it is a valuable teaching tool that allows us to feel our way gradually to the optimal social outcome. Certainly, sometimes incremental changes have this effect. But there is no reason to think that, as a general rule, incremental change is always a superior teacher than alternatives, such as a brief experiment with a dramatic change, or drastically different regulatory schemes across jurisdiction. A month where smoking was prohibited everywhere may well give society more useful information in planning future regulations than an "incremental" prohibition on smoking in restaurants.

Solving the Foreclosure Problem

There is no shortage of ideas about the current foreclsoure problem, but unfortunately very little progress in Washington. The problem is that an unusually large number of homes, and I will stick to residential mortgages in this post, are "underwater," meaning that the outstanding balance exceeds the apparent, current value of the property. Homeowners are thus tempted to "walk away" from the property, and abandoned properties lose value when they are not maintained. Moreover, there is a perception that the banks would often be willing to renegotiate the mortgages, because they are currently not in much of a position to foreclose and resell at a "profit," but ownership and credit claims on the property are dispersed in a way that makes renegotiation difficult. Nearly everything in this paragraph requires modification, argument, and upending, but I will focus on a mere few items here.

How can homeowners walk away when they are in debt?  In some jurisdictions, home mortgages are indeed non-recourse loans, so that the mortgage holder cannot go after the borrower personally. but in other places the problem is simply a practical one compounded by legal regulation. There are many protections against foreclosure, in part because there are often sad stories associated with past abuses. In many places it is estimated that it takes 18 months to eject a homeowner and sell the property in a way that yields a clean title. The home can suffer serious damage in 18 months. Moreover, many of these borrowers do not have much in the way of other assets or earnings, especially in the current economic climate. For some, that is why they have fallen behind on their payments.

Audio/Video: Fault in Contract Law

In September, Frank and Bernice J. Greenberg Professor of Law Omri Ben-Shahar and Fischel-Neil Visiting Professor of Law Ariel Porat organized a conference intended to reevaluate the role of fault in contract law. Speakers included Chicago faculty Saul Levmore, Eric Posner, Richard Epstein and Judge Richard Posner, along with experts in contract law from around the world. Subscribers to our Faculty Podcast may have already heard Judge Posner's "Let Us Never Blame a Contract Breaker," and audio and video of the entire conference is now available on the conference website. You may also watch Professor Ben-Shahar's introduction to the conference in the video embedded after the jump.

It's all Central Planning Now (and the Private Sector Wants it that way)

It is hard not to notice that we have entered a period of enormous government spending and investment. Here and there some non-Keynesians speak up, but for the most part most citizens and academics think there should be some bailouts, some infrastructure investments, some climate change investments, some education initiatives, and some health care "reform." Some combination of the Lame Duck Bush Administration, the Obama Election, and most especially, the current recession has brought on the beginning of a serious spending spree and an important period of central planning and control. And think of the discretion "enjoyed" by the Treasury and other government units. Detroit may be bailed out by the unilateral decision of Treasury officials loosely interpreting Congressional language in TARP; there is amazing discretion in deciding which banks to support and which not; and the list goes on. But the way to think about this enormous relocation of decisionmaking to the public sector (whether the executive or a more careful and confident Congress) is to think at the same time of the disinclination of individuals and other investors to put resources directly in the private sector.

The automobile companies cannot raise money on their own. Few investors are plowing their funds into banks. T-Bill rates are so close to zero because people are looking for a safe mattress, and fear that any "real" investment will simply lead to losses. Note that funds are not flying out of the country and in to China or Germany, because investors do not have more confidence in private investments overseas. Somewhat similarly, money has left hedge funds and is currently parked, rather than affirmatively invested. Investors may have views about the relative promise of various industries, but they hold back because strong-form intervention by the government provides a large amount of uncertainty.