XIV. PEAKLOAD PRICING
CASE: Twin Peaks: Prices and Facility Utilization in Higher Education
[A version of the following paper was published as: Coats, R. Morris (1995). "Peak-Load Pricing and Facility
Utilization in Higher Education," Journal of Marketing
for Higher Education 6:15-25.]
The author's university, Nicholls State University, is mostly a commuter campus with many of its students working at parttime jobs. Practically all available classrooms are in use during the morning hours, yet from 2:00 to 6:00 p.m. few classes are scheduled. Few students will sign up for afternoon classes even when they are offered. Students often can not get into the classes they desire or the classes they should take that semester. The traditional response to full or overcapacity enrollment is to build new classroom buildings to satisfy the peak demand during the morning hours because capacity has been reached even though there is plenty of classroom space available in the afternoon.
How can we switch some of the student demand from the morning to the afternoon periods? If we reduce our offerings in mornings and increase them in the afternoons, students who are unable to take afternoon courses may not register before the students who merely have a weak preference for the morning. The result is that some of the students who have schedule restrictions are not able to attend that class at all.
Leslie and Brinkman (1987) have surveyed studies of students' demand for higher education and conclude that price, tuition, is an important contributor to the variation in enrollmentstudents are sensitive to price differences in universities. Berg and Hoenack (1987) have shown that when tuition charges (price) varies in the same institution, across programs, reflecting cost variation, that efficiency of resource utilization is enhanced. Berg and Hoenack refer to tuition which varies according to cost of the program as "costrelated tuition." This paper explores one application of costrelated tuition, charging different prices according to time of day and time of year differences.
A key point here is that "marginal cost" is the relevant cost concept for decision makers. Marginal cost is the cost of adding another unit of output, in this case, adding one more class in this case. Almost all building costs will be incurred whether classroom space is being put to use or not. This is a cost that cannot be changed over the course of the day, or even over the year. If these costs cannot be avoided, then efficiency dictates that the facilities should be used anytime there is no other use for the facility as long as the use generates funds that exceed the marginal cost of the that use. Afternoon classes, Saturday classes and evening classes should be encouraged by offering tuition discounts. If facilities are used at full capacity on MondayWednesdayFriday schedules then TuesdayThursday schedules should receive some discount. If facilities are not in full use during the summer months, then tuition discounts should be given for summer school. The buildings will be costing money whether they are in use or not, but if they are in use, they help to generate funds that can go toward paying for the facility. In fact, with modern electronic equipment in many of the classrooms, and valuable books in offices, climate control is often necessary, a cost incurred whether the building is in use or not.
In the terminology of economists, there are at least two identifiable demand curves, one in the morning and one in the afternoon. Demand curves are graphical depictions of the inverse relationship between the price of a good (shown along the vertical axis) and the amount buyers attempt to buy in a given time period (shown along the horizontal axis), holding other factors constant. In FIGURE XIV, hypothetical demand curves for student credit hours are shown.
During the morning hours, the demand for classes is shown as MORNING DEMAND 1, while the demand for afternoon classes is shown as AFTERNOON DEMAND 1. Lower tuition entices greater enrollment in both the morning (along MORNING DEMAND 1) or in the afternoon (along AFTERNOON DEMAND 1). In other words, at a price of $100 per student credit hour, enrollment is lower in both the afternoons and the mornings than it would have been had the price been $50.
Though tuition does affect the number of classes students wish to take, it is obviously only one of many factors that does. Another factor that affects the number of classes students wish to take during a particular time period is when that time period occurs. There are many factors that can cause some time periods to be popular while others are not. This is why the demand relation in the morning is not the same as the one in the afternoon. Charging tuition without regard to the time of day is equivalent to charging a price per credit hour of $100 dollars per class for both afternoon and morning classes. In this case, students attempt to sign up for 2000 credit hours in the mornings, but for only 500 credit hours in the afternoon.
Since 2000 credit hours exceeds the school's capacity of 1500 credit hours during one period, adding another class in the morning would mean adding new classroom buildings as well as hiring more professors and support staff. When course demand fluctuates over the course of the day, not only will building use fluctuate, but the use of other facilities may fluctuate, causing increased costs from adding other facilities to meet demand, such as computers, libraries, parking lots, and recreation and relaxation facilities. However, adding another class in the afternoon would only require the additional personnel costs. If revenue from both student fees and any subsidy the state pays on a credit hour basis in each afternoon class is sufficient to pay the additional personnel, then it would be worth offering the class, since the school receives additional funds to cover the additional costs of adding the extra class. Leveling out the utilization of classroom space saves on costs while allowing enrollment to build. If only some of those who schedule morning classes weakly prefer morning schedules, then they could be persuaded with a small incentive to schedule some of their classes in the afternoons. This would open up classroom space in the mornings for others with less flexible schedules.
This is a familiar problem in the utility industries where the
fixed costs of expensive facilities makes up a huge portion of
the firm's costs and demand fluctuates over both the time
of day and over the course of the year, as is true in a university.
The telephone industry has been successful in handling this problem
by charging higher rates during the peak long distant times, business
hours, and charging lower rates during offpeak hours and
weekends. Similarly, natural gas suppliers often give rate
reductions for "interruptible" service so that demanders
of noninterruptible service will not be cut off if peak
demand grows beyond capacity [Greer (1984)].1
Charging a higher price
during peak periods to discourage utilization during that period and a lower price during offpeak periods to encourage usage during those periods is termed "peakload pricing." In a university, peakload pricing could be used by giving a tuition discount for each afternoon class for which a student signed up. This saves on construction costs, as new buildings to meet increasing enrollment would not need to be built. Also, students are charged according to whether they exert pressure on the facility capacity or not, that is, according to costs. Often, students do not pay an additional cost for additional classes beyond a fulltime load. Still, when presented as a discount for taking afternoon classes, the effect would be the same. In FIGURE XV, this would mean offering a discount of $20 per credit hour for each afternoon class taken, or charging a tuition of $80 per credit hour for afternoon classes.
If such a discount were offered for taking afternoon classes,
the demand for morning classes will decline, for example, from
MORNING DEMAND 1 to MORNING DEMAND 2 in Figure XV. Continuing
to charge a price of $100 for morning classes results in students
only trying to sign up for 1500 credit hours, campus capacity,
which is still more than the 1000 credit hours in the afternoon
at a price of $80 per credit hour in the afternoon. The
increase in credit hours in the afternoon of 500 came from the
morning students, decreasing the demand for morning credit hours
by the same 500 hours. The students that will be switching
from morning to afternoon classes are the ones with the more flexible
schedules, freeing up spaces in classes in the mornings for those
with less flexible schedules.
Whether university administrators have the incentive to implement such a plan is another problem entirely. Campus construction projects are usually both more visible accomplishments and easier to claim as one's accomplishment than a high building utilization rate or low costs per student credit hour. Structuring the incentives of administrators to encourage efficiency is an ongoing struggle.
To alter a given behavior, the desired behavior should be given positive reinforcement. The desired behavior is increased registration in offpeak time classes. What better positive reinforcement to offer than a discount on student tuition? Certainly, not everyone will be able to take advantage of the discount, students with inflexible schedules would still sign up only for morning classes. The discount should not be so large as to switch most students to afternoon schedules, where the afternoon would then be the period of peak demand.
One further point that is worth making is that many of the lessons
that businessmen find useful in running profit oriented organizations
can also be useful in running nonprofit organizations.
Though a university administrator may not be concerned with maximizing
profit, the administrator should still be concerned with efficiency,
doing all that can be done with limited funding resources.
Economics, with its concentration on efficiency, is worthy of
greater attention of both the students and practitioners of higher
education administration.
Acknowledgements
The author wishes to thank Mary Tucker, Bruce McManis, Charles
Lafleur, and Walker Allen for helpful comments they made on an
earlier draft. All remaining errors are the responsibility
of the author.
Notes
1 There has long been talk in the electric utility
industry about peakload pricing, but this would require
a more elaborate meter. In 1977, Wisconsin Power & Light
began to use peak load pricing, charging commercial users 2.03
cents per kilowatthour between the hours of 8 a.m. and 10
p.m. but 1.013 cents per kilowatthour at all other times.
Seasonofyear price differentials do not need special
metering and are usually employed. [Greer (1983)].
Berg, David J. and Stephen A Hoenack (1987). "The Concept of CostRelated Tuition and Its Implementation at the University of Minnesota," Journal of Higher Education, 58:276305.
Greer, Douglas (1983). Business, Government and Society, 2nd ed. New York: Macmillan, pp. 304307.
_____________ (1984). Industrial Organization and Public Policy, 2nd ed. New York: Macmillan, pp. 446448.
Leslie, Larry L. and Paul T. Brinkman (1987). "Student Price Response in Higher Education," Journal of Higher Education, 58:181204.
Zajac, Edward E. (1978). "Basic Ramsey Prices in the Regulated Sector," in Fairness or Efficiency: An Introduction to Public Utility Pricing, Ballanger Publishing Co. pp. 2132.
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