Demand driven only if it suits

When Julia Gillard first announced a student demand-driven funding system in March 2009, she insisted it wasn't a voucher system. But legislation for the Gillard government's demand-driven funding system, introduced into federal parliament last week, suggests her denial was more credible than it seemed two years ago.

The foundation ideas in voucher systems are choice and competition; that all other things being equal, consumers make better choices than governments, and that competition between suppliers encourages a stronger consumer focus and better services.

However, lack of choice or competition is not the main problem being solved by the demand-driven legislation. Instead, the problem being solved is how to increase higher education attainment to 40 per cent of 25- to 34-year-olds by 2025.

Under the present system, the government allocates student places to universities. The target numbers largely reflect historical distributions, as modified through the years by ad hoc allocations of new places.

Big increases in target numbers to reach the 40 per cent attainment goal risked serious policy and political problems. Places could have been misallocated and wasted, given to universities that could not fill them. There are quality hazards in forcing under-prepared students on universities. And a coercive allocation process would have soured government-university relations. Removing the caps on student numbers at least partly solves these problems. Universities have better information on local demand and supply issues than the government. And the government hasn't needed a stick – or indeed much of a carrot – to encourage the universities to enrol more students.

But as last week's legislation shows, the government doesn't trust student demand or universities. It retains the capacity to control supply and therefore limit how much universities can respond to demand. It can cap the number of commonwealth-funded students in designated courses. There is a broad power to cap the number of students in any course, and specific powers to cap medical student places and postgraduate coursework places.

A shortage of clinical training places is the reason given for capping medical student places. This is a genuine issue. But, ironically, medicine is also the most common example given as to why a voucher scheme is better than government control.

In the 1990s, the government cut intake of medical students on the grounds that an over-supply of doctors was increasing Medicare costs. Thousands of would-be medical students were turned away. The result was a severe shortage of Australian doctors and a public health disaster averted only by foreign-trained doctors.

The government is also retaining the right to set minimum numbers of places, which would require universities to enrol students or maintain courses. Not being able to close a course makes it riskier to start new courses in the first place. In contrast, a voucher system encourages entrepreneurial new courses. Closure restrictions also mean universities cannot move resources to areas of greater demand.

The biggest potential restriction on supply is that the government reserves the right to cap total funding per university, though it has said it won't do so next year, and the legislation requires the cap not be below previous funding levels. It's a demand-driven system, except when the government thinks that a university or universities are responding to too much demand.

Though government can respond to supply not matching its preferences, how well universities will respond to student demand is an open question. If courses are not subject to minimum numbers of places, the incentive is to follow the money. If a course loses money on the government funding rate – a claim often made by universities – then economic logic suggests they should close the course, regardless of demand.

The system encourages neglect of student choices in other ways. The demand-driven system applies to public universities but not to TAFEs or private providers offering higher education. So if students want to choose a higher education provider other than a large teaching-research university, the government will not pay tuition subsidies except in a few special, and capped, cases. This runs strongly contrary to the choice and competition goals of a voucher system, but is consistent with a policy goal of increasing the output of graduates while controlling government expenditure.

If recent enrolment increases are any guide, the government's degree-attainment targets will be met. But the system's supply constraints work against it fully reflecting student choices. Gillard was right to deny that her demand-driven system was a voucher system, but wrong not to push for this more ambitious policy goal.

Andrew Norton is a Research Fellow with The Centre for Independent Studies.