The Indian Economy Blog

June 2, 2007

The Indian Education System — Parts 7 & 8

Filed under: Education — Atanu Dey @ 9:31 am

Markets Work

Imagine for a bit what it would be like if education were provided by private sector firms. Can it be done? Would a socially optimal amount, variety, and quality of education be provided? Would there be market failures? If so, how can those market failures be corrected? Can one devise mechanisms to correct those failures?

The answer to whether the private sector can provide education is clearly ‘yes’ because around the world for a very long time private firms have provided education very successfully. Both private sector for-profit and not-for-profit business models exist. Education, at some level of description, is a service like any of a very large variety of goods and services provided very efficiently by the market. The generalization that markets work holds quite meaningfully in the specific case of education broadly.

It may be worthwhile to briefly expand on what “markets work” means, say, in the context of a good such as computers (both hardware and software.) Basically, there is a demand for computers, or in other words, people are willing to buy them. Firms supply to the market to make a profit. They innovate to increase the variety of the goods to increase their revenues, and figure out ways to reduce their costs so that they have greater profits. Like the large number of profit-seeking firms on the supply side, on the demand side, a very large number of consumers also enter the market with the generalized desire to get the most bang for their buck. The competition that arises from the self-interested behavior of consumers and producers ruthlessly forces unfit computers (and therefore the firms that make them) out of the market and relentlessly drives up the quality and variety, while prices constantly fall.

It is a Schumpeterian world out there – red in tooth and claw. But out of the dance of creative destruction, emerges things that no one—however smart or wise—could have ever predicted. Let me stress that: no one knows what amazing stuff the market will deliver, who will make it, how it will be made, how much it will cost, what it will be priced at, how it will be improved upon and by whom. Nobody knows, and that includes government bureaucrats or politicians, regardless of how strenuously they claim to know. The inescapable fact is that every innovation, every object that you use, every service that you enjoy, arose overwhelmingly in the private sector, through the risk-taking, imaginative, innovative, entrepreneurial spirit of individuals driven by a basic desire to make a buck.

So is there no role for the government? Yes there is. First, it has to ensure what is called a “level playing field,” to set the rules, to resolve disputes, and maintain such institutions that are necessary for supporting the functioning of the market. Second, in case of market failures (which we will not go into here as this is not a text book on basic economics), to do what it can reasonably do without making the problem any worse. If the government cannot do better than the imperfect markets can, then it is better for us to live with the results of the market failures.

Here then is the basic recommendation that one is forced to make: let the private sector supply educational services in India. The government must not be in the business of providing education at any level. Let the market have a go at it. The government of India is not capable of providing education. It has demonstrated its incapacity over decades, and there is no reason to believe that it is even theoretically up to the job. Education is too critically important for the future of India for it to be left to the government. In today’s world, more than ever, education is a dynamic service. It requires innovation, creativity, entrepreneurial talent, risk-taking ability and human resources—all of which are sorely missing in the government. It is government control of the sector which has had the unfortunate consequence of Indian education to resemble Keynes’ characterization of education as “the inculcation of the incomprehensible into the indifferent by the incompetent.”

Part 8: Scarcity

Consider this list: cars, scooters, telephone service, airline ticket, seats in schools and colleges, electricity, and railway tickets. Think of the year 1980. Notice the common feature of the list: shortages. Now consider the list in the year 2007. Notice some things on the list are no longer scarce. It cannot be mere coincidence that only those items which the government has released it stranglehold on are no longer scarce. Could it be possible that if the government lets go of its vise-like grip of schools and colleges, that shortage of educational services will also be a thing of the past?

Given sufficient time, shortages have a way of entering into our worldview so that we simply start considering them as normal and acceptable. Today the power supply where I live in Pune failed for over two hours. It is remarkable that I have accepted that power in India is unreliable and don’t work up a sweat (only figuratively speaking, though.) It is part of our survival mechanism. We adjust to unreasonable situations. That’s how it is, we explain, and cope with it. We have become inured to the mad struggle that people go through to get their children into schools and colleges. We forget how astonishingly unnatural it is that something as basic as a good education involves almost superhuman effort.

Chronic shortages do not occur naturally. You can have acute sporadic shortages due to shocks to the system. But chronic shortages have to be carefully engineered and the machinery that creates shortages has to be kept in good working order. Otherwise the natural tendency for a market is to close the gap between the quantity demanded and the quantity supplied. This is a fundamental truth about the world of humans.

One effect of persistent shortage is low quality. Lacking the discipline enforced by the customer’s freedom of choice, suppliers don’t have an incentive to ensure quality. The consumer is happy to receive even shoddy goods and services because it is a struggle to get anything at all. Take it or leave it, is the basic attitude of the producers in a sellers’ market.

In summary, it is misguided government policy that lies at the root of our dismal education system. The policy change required is to allow the private sector unfettered access to the education market. Will the private sector supply educational services? An unqualified yes because there is money to be made. Currently around 10 percent of GDP is spent on education, which amounts to around US$60 billion. Half of India’s population is below 25 years of age. That defines the addressable market for educational services. If the supply of educational services were to meet the suppressed demand, the annual spending on education will be many multiple times the current level.

Which brings up one of the most important matter associated with education. There is an implicit ban against for-profit educational institutions in India. Why this is so is hard to understand. For-profit producers of other goods and services are not banned. Indeed, it is clear to see that for-profit organizations produce most of the critically important goods and services. The only caveat is that these for-profit firms have to face competition. That’s the bottom line: allow all firms to enter the market, regardless of whether they are for profit or not. The market forces will regulate the firms so that the supply rises to meet the demand, the quality improves, and the prices reflect the underlying costs.

One final point: what about the poor? First, for education up to the secondary level, those who are unable to pay for their education should be publicly supported through vouchers which are redeemable at private schools of choice. Second, for post secondary education, those who are unable to pay should be given loans. Recall that post secondary education has a short payback period and the return on investment in education is positive. So the loan recovery with interest is not a problem.

[Previous post: Part 6. Continued in Parts 9 & 10.]


  1. Atanu,

    Your argument for the role of the markets in primary education is compelling. The only question that alludes whenever this discussion emerges is that, Why would developed countries like the US, which are the strongest proponents of markets – still have kept primary and secondary under government control (In 2007 there were 50 million kids in public schools, and 4.5 million kids in private schools).

    Now it puzzles me that while they themselves believe that K-12 education should be state subjects, their own economists (Like Prof. Tooley) are eager to overemphasize the role of private schools in Africa and India. I would say we should re-think this prescription.

    Comment by Santhosh Ramdoss — June 2, 2007 @ 2:08 pm

  2. I prefer to go by track record and so far govt. funded education seems to be doing fine in many countries with the OPTION of private education available or those who want it.

    Private education would soon be overrun by religious institutions and there goes secular education.

    Comment by Sridhar Jagannathan — June 2, 2007 @ 8:09 pm

  3. I think you are placing too much faith in the private sectors ability to deliver quality education while still keeping it affordable to the common man. Its ok in the cities where people are more or less aware of the available options(i.e cost/quality) . But what about in the rural areas where the govt has to provide incentives to improve attendance. A private entity’s main goal is its profits. How will it achieve that and at what price? Even if the govt were to subsidize there is no guarentee they will be any better. Maybe the emphasis should be on changing the current teaching methods rather then privatising the education system

    Comment by shri kiran — June 3, 2007 @ 12:41 am

  4. atanu
    firstly i’d like to tell you that your entries on the indian education system were very gripping and well thought out.
    through out these series, we’ve been talking about eradicating the country of illiteracy. we know it for a fact that illiteracy is more of a problem in the rural areas than the urban. More awareness regarding this is required at the rural level, and the establishment of more(rather better) schools is a requirement at the rural level.
    well, i was just wondering, why would any private for-profit organization venture into schooling, that too at the primary level, in rural areas? what would be the incentive for them? there is hardly any scope for profit there..(as far as i know). does it sound conducive?

    Comment by arushi — June 3, 2007 @ 12:47 am

  5. I agree that the govt should allow private schools and colleges without any hinderance.

    One thing about the US schools. Though most US schools are public, they operate somewhat different from indian public schools.. The public schools in US are run by local governments, not state or central govts. A large part of the funding for schools come from local taxes, paid by residents in the town/village where the school is located. For these reasons, people are heavily involved in the operation of their schools; they want to get best education for their children, and they want to get the best bang for their tax money. In most areas town/village residents elect the local school boards.

    In India too, my experience is that whereever there is a strong community involvement, govt schools do produce excellent results. Private schools have explicit parent involvement.

    Recently I heard that kerala govt is trying to move school financing responsibilities into hand of local governments. This may not happen because the local governments in kerala are generally too poor. However if the village or town can take ownership of their schools then the quality will greatly improve.

    Comment by muttan — June 3, 2007 @ 8:03 am

  6. [...] 06/02/2007 11:09 AM Comment on The Indian Education System Parts 7 & 8 by Sridhar … I prefer to go by track record and so far govt. funded education seems to be doing fine in many countries with the OPTION of private education available or those who want it. Private education would soon be overrun by religious … [...]

    Pingback by » Blog Archive » 2 — June 3, 2007 @ 11:11 am

  7. Atanu,

    Have to disagree with your prescription – exactly for the reasons that Santhosh points out.

    There have been significant success stories even in Indian primary education where local involvement has been high. The previous generations of Engineers, Doctors, Administrators, and all others were generally the product of state-sponsored education. They seemed to have turned out alright. And the system is generally acknowledged to have worked fine. There has been much water under the bridge since then – corruption taking a huge toll and being not among the least of the present problems.

    Why would privatization of primary/secondary education work here when you have no equivalent system anywhere else in the world?

    When you talk about post-secondary, higher education, I’m inclined to agree that a greater degree of freedom will provide benefits – precisely because the student is able to make a better informed decision.

    I see a lot of hand-waving about the benefits of Capitalism and Competition in general, which very few of us might argue against. I don’t see any justification of why a free-market system would benefit the customers in a scenario where there is significant customer lock-in (you can’t just leave school when you want), significant long-term benefit and lack of short-term returns at the expense of high short-term cost.

    Complete privatization of primary/secondary education will lead to worsening inequality, with even starker differences between haves and have-nots.

    Comment by Prasanna — June 3, 2007 @ 6:22 pm

  8. One point – You’re right about the unpredictability of the private sector…but I do know this much…private firms looking for profit WILL NOT go where there is no money…in other words, they will NOT provide services to the people who need education the most…the lower classes, the rural poor and the economically backward Indian outback regions.

    The role of the government in provision of education is necessary not just because of the argument above but because of the very laws of economics…

    How so? Every economic policy ultimately has one goal…the creation of a society where resources are utilized in such a way that every individual in the society will have adequate access to these resources in order to satisfy his or her demand…whether it is free market policy or otherwise, the goal is always the same

    What is demand? Economically, demand is desire backed with adequate financial capability. Thus, even if the poor people in a society have a greater desire than the rich to get educated properly, their demand will be lower because of financial constraints. On the other hand, even if the rich have a comparatively (comparatively!) lower desire to get educated, their demand will be higher because of greater financial capability.

    Thus when the suppliers (private educators) look at these two sub-economies (rich and poor), they will prefer to supply to the rich because economically, there is a greater demand for education among the rich.

    If you let only private educators do the supplying, you would be going against the goal of every economic policy…to ensure enough access to resources for everyone…

    On the other hand, if the government runs schools of their own for the poor people in a country, the demand for education for the poor will be met, because the poor will be able to afford government education.

    Again, since comparatively, govt education will be of lesser quality, the rich will stay away from these schools and go to the private sector…the rich get a higher quality of education by paying for it and the poor will be free to occupy govt schools where they are given atleast some sort of access to education and empowerment…

    From what I can make out, the quality of govt schools can NEVER reach the quality of private sector education…but you know what? This is economically desirable because it’ll keep the rich away from govt schools allowing the poor to access education…the gap of quality between govt and private schools should be as small as possible and govt schools should try all the time to close that gap in order to ensure good quality of education…but there should be a slight gap nonetheless, to ensure that you get your money’s worth of quality.

    So the solution is to allow both private and govt agencies to run schools…this will ensure everybody gets access to education while at the same time, people get their money’s worth of education…

    Comment by Amogh — June 3, 2007 @ 6:36 pm

  9. And as good as the voucher system sounds, Im afraid it wont be really viable. Just think, if there are such vouchers floating around the economy, allowing people to access excellent education at a lower price, will only the poor try and use them? Remember that everyone tries to save money regardless of how rich they are…and in a country like India where corruption is all too rampant, it’ll be the economically forward who’ll get hold of these vouchers and use them…corrupt politicians and influential bureaucrats will be only too happy to lay their hands on these and send their own children to expensive private schools while the poor are left high and dry

    A similar phenomenon occurred with the Public Distribution System where families above the poverty line got hold of ration cards leaving BPL families with no access to good food…

    Comment by Amogh — June 3, 2007 @ 6:56 pm

  10. I disagree with Atanu although I have to say not completely. My reasoning goes like this.

    The markets are efficient as Atanu describes and will phase out any company/product that does not satisfy the customers – Absolutely true.
    While the above efficient markets theory works for products, in case of education, private education BUSINESSES which do not satisfy customer getting phased out as well is a leap of faith and may not always happen.
    The flaw with Atanu’s theory is that as companies adapt to stay in business and they will try to achieve profitability through efficiency. In the education value chain one of the inputs is the students – Now if an average or slightly below average student enrolling in a private institution causes their end product to be less than stellar from a markets perspective, they will adjust their supply chain to deny admission to anyone deemed below average. Take this point in the perspective of primary, middle and high school education. The education companies/businesses will have no vested interest in working with the below average candidate (or perceived below average student) and the best way for them to avoid having to work with sub-par input is to not enroll one (costs are also lower when not have to work on improving a sub par input and the final product becomes inherently competitive when eliminating sub-par inputs). Education increases the productivity of an economy overall and letting ONLY MARKETS dictate the education system can very well result in vast swathes of population left behind altogether or denied education outright. So education, especially higher education being privatised helps to some extent, basic primary education cannot and should not be completely privatised.

    The other argument that I put forward is through my personal experience dealing with Privately educated individuals (mostly higher education)during my working career. The individuals are usually bright but private education systems especially in India tend to focus on the flavor of the day – Again its a supply and demand mechanism that forces them to do that albeit for a profit. These products of the private system are usually very deficient in the overall package and are one hit wonders – there is no incentive for the private education company to try to build a complete package.
    I am sure a counter argument can be made to my second argument that markets will phase such one hit wonder creating machines but markets take time to reach efficiency and this can create opportunities for product distortions whose effects can be felt for a very long time economically.

    Education can not be a pure product like a mortgage or bond – markets cannot be extremely efficient as a lot of economists and Miller Modgiliani school of thought experts may testify. If you need examples of inefficiency of markets, we do not need to look farther than most banks which have for a long time sold products which while being profitable to them have destroyed share holder value for a lot of companies (their clients) and yet they continue to exist and become larger on the strength of their balance sheets and continue to increase in size on the back of mega-mergers.

    Atanu, I think there is a place for Private Institutions in the education field but they should fulfill needs that the public education systems cannot address. The public education systems are built to serve a very diverse set of stakeholders and have to be nimble and vast in their service. What public education systems cannot provide, the private institutions can do very well. This would help those among the populace that think they need specialized education get that but through their own recourse. Yes this might raise questions of accessibility and affordability for some but no one said Life was fair!. I know it is not a great expression to use here but that is all I have.

    A better solution is to expect and demand the Government to provide a better education product, much like we ask of other private companies. We have to stand up and do that and not just say that it is better to entrust everything to the private hands and that the markets are better at everything.

    Piyush Goyal

    Comment by Piyush Goyal — June 4, 2007 @ 8:32 am

  11. The debate on private vs public supply of education in India misses some points: One, there is currently no constraint on the private sector setting up educational institutions at the primary and secondary levels. In fact, many housewives have successfully launched ‘schools’ of varying quality in small towns across the country. Despite this, schools are missing in large swathes all over India, probably because of inability of students to pay enough to meet profit criteria or lack of personnel or geographical inaccessibility. Two, equity of access is a key consideration in a country as diverse as India. Across the world, public schools funded by the government operate on the principle of equal access. Access to education based on ability to pay amplifies existing divides, and encourages schools limited to certain communities. Three, government should not absolve itself of the responsibility to provide education. This is a basic government responsibility. In fact, it needs to concentrate its resources on education, health and social sector, while exiting from areas where private sector can operate under regulated competition.

    Panchayats together with community involvement can provide checks and balances on government spending on education. Management of schools should be with the community, including hiring of teachers ( and firing). Private sector must be given free access to the higher and vocational education sectors under market conditions as skills are more attuned to market requirements. Government should provide free access to quality primary and secondary education in a common school system for all.

    Comment by Sharmila Kantha — June 4, 2007 @ 10:17 am

  12. Most of you are missing the point. The government does not have the resources or the capability to educate the rapidly increasing population of India. The only way out is incentivizing the creation of educational opportunities by private entities. Saying that “the government should provide free …” begs the question “aren’t they doing that already?”

    Comment by Biswajit — June 4, 2007 @ 11:10 am

  13. Nobody is saying that private entities should not be allowed in the education sector (at least not me)…but what is also being stressed upon is the importance of the govt role in education…just leaving everything to one sector (public or private) is not economically desirable…the private sector should fill in wherever demand for private education exists and the govt should fill in wherever the private sector is not able to provide educational facilities. It’s only when the two work in tandem that a large section of the population get easy access to education

    Comment by Amogh — June 4, 2007 @ 4:03 pm

  14. Atanu:
    Govt in a regulatory mode – Agreed
    Govt. provides alevel playing field – Agreed
    But why preclude the govt. from being a provider. I mean in telecom BSNL works, as long as the restrictions on private parties are lifted ie the regualtion function is proper, why shouldn’t the govt be a provider too. Education afterall may neeed as many providers a s possible

    Comment by Rishav — June 4, 2007 @ 5:37 pm

  15. Pick up a news paper every morning and the odds are more that you see graphs showing Sensitive SENSEX touching new highs or India is rapidly heading towards two digit GDP, inflation is going down, retail boom. With all this number crunching happening in India and portfolio of rich making them more rich no one takes time to think about to think about what would be the future of a country which has majority of illiterate young generation. Our education system i think is in shambles. Again there is number crunching happening in number of literate and illiterate children in India but no one is giving a damn about quality of education in this country. Although i would say all these SENSEX news only instigate me to think about how we might possibly improve education system in our country exploiting this Sensitive SENSEX.
    Ever since I got to know stock market one thing I scrutinized is that every company nowadays have dream of getting listed on stock market garner huge sums of money for their future business plans, corporates providing ESOPS to their employees to attract best talent and all these strategies to scale business is increasing profits of corporates by leaps and bounds in addition to growing pressure from stockholders to improve quality of their products. Now considering our schools and colleges as corporates and mapping products of these corporates to students I think we can achieve the same level of quality in education system as we are getting in Indian manufactured products or from services nowadays. Now let me explain it in detail how this can work and fit in our society.
    From my point of view there are two major stumbling blocks in our education system, one is that most of the schools dont have sufficient liquidity to hire best talent and the second one is that those who have enough cash dont have any pressure or some sincere body to monitor whether our education system are producing quality products or not, although government is pouring hugh sums of money to all funded institutions but that money doesn’t trickle down to institutions in pure vertical manner in fact it takes a shape of inverted pyramid when it reaches to institutions due to vested interest of many people. So now my point is if we make these educational systems public i.e get them listed on stock market these systems will start getting huge sums of money and since nowadays investors are wise enough where to invest they would take out there money if the institutions are not providing quality products i.e quality students, also there should be some mandate for schools to provide ESOPS to parents of students which would lure the parents of children, who don’t send their children and make them work to earn money from childhood, to send their children to school to study in order to earn as the share prices rises.
    Although I have not yet thought about feasibility of this thought but I would say there must be this or some other way to improve education in our country because that is the key to really become superpower and not just doing producing good numbers of GDP or SENSEX in newspaper headlines or breaking news on News Channles.

    Comment by Piyush Moghe — January 3, 2008 @ 10:40 am

  16. Firstly let us try to answer the question “Has privatisation happened in the Education sector in India”

    If you compare India with other countries, qualitatively or quantitativel the answer would be a resounding “NO”.
    If you compare the Education sector with other sectors in India which have been liberalised and privatised (telecom, airlines, insurance, IT, banking) again the answer would be a resounding “NO”.

    So lets not try to draw any conclusion from the current half-baked private initiatives about the benefits of liberalisaion.

    Other anti-liberalisation arguments are also common in one respect. We’ve heard them before
    - if telecom was opened up, only the very rich would be able to afford phones
    - if private airlines were allowed, only the very rich would be able to afford flying.

    etc. etc.

    Is the government hindering private initiative in education?

    I would like to point out to only one of many news articles on the subject

    Finally, regarding some comments on the government being precluded from education – who on heaven mentioned that government should not invest in education?

    Its only about private investment, both domestic and foreign being REALLY allowed into education

    Comment by Kiran P — August 13, 2008 @ 2:38 pm

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