NATIONAL BUREAU OF ECONOMIC RESEARCH
NATIONAL BUREAU OF ECONOMIC RESEARCH

Does Grant Aid Attract More Students than Loans?

"Substituting grants for loans increased the likelihood of a low-income student actually starting college at the school by only 3 percentage points, and this number is not statistically significant."

The rising cost of higher education makes it more difficult for universities and colleges to attract students from low-income families as well as those from more prosperous households. The average cost of attending a four-year college has risen from $9,539 in 1988 to $12,282 in 1998, in constant 1999 dollars.

To deal with this problem, federal and state governments have increased their grant and scholarship programs. Washington's Pell Grants, for instance, were made more generous during the 1990s. Also, a number of colleges and universities have improved their financial aid programs in order to attract low-income students, some of whom will be minorities.

Previous research finds that student enrollment is sensitive to the amount of tuition and the level of Pell Grants. Students do examine their "net college costs" after taking account of grants, and not just the "sticker price" of tuition and other college costs, in deciding to attend a specific institution. The higher the net cost, the less likely a student will attend a particular college or university.

In Financial Aid Packages and College Enrollment Decisions: An Econometric Case Study (NBER Working Paper No. 9228), authors David Linsenmeier, Harvey Rosen, and Cecilia Rouse examine the effect of a change in the financial aid policy of an unidentified university in the Northeast region of the United States in 1998. Prior to that time, the university's financial aid packages for low-income students consisted of grants, loans, and campus jobs. Grant aid includes funds from any source, such as Pell Grants and university endowment funds, that are provided without expectation of repayment or any work done by the student. Loans must be repaid with interest, although payments and accrual of interest may be deferred until some time after graduation. Interest may be less than market rate. Job aid consists of a paid position at the Northeastern university, usually requiring nine hours of work each week during the academic year.

After the change in the university's policy, the entire loan portion of the package for low-income students was replaced with grants. This is more expensive for the institution. But the hope was it would prevent qualified low-income students from declining the University's offer of admission for financial reasons. These concerns were natural given that there had been a recent drop in the number of low-income students accepting the school's admissions offers.

At this Northeastern university, students are classified as low-income if their family income is less than the national median family income - $41,955 for the class entering in 1998. In this study, the researchers classified students as minorities if they identified themselves as African-American, Hispanic, or Native American. Asian students are not classified as minority. Ninety-eight percent of the low-income students admitted to the university in the sample analyzed by Linsenmeier, Rosen, and Rouse were awarded financial aid, compared to only 43 percent of non-low income students. The school figured its new program would cost about $1.7 million per year by the time it was fully phased-in, in fiscal year 2002.

The three researchers find that the new program is only a border-line success. Substituting grants for loans increased the likelihood of a low-income student actually starting college at the school by only 3 percentage points, and this number is not statistically significant. In the case of low-income minority students, the likelihood of entering this institution grew between 8 and 10 percentage points, with statistical significance at the 10 percent level.

The authors explore several explanations for why they did not find a statistically significant effect among all students. First, it is possible that students were not aware of the change in financial aid. However, under regular admissions students are notified about their financial aid packages before deciding which institution to attend. Thus even if the students had not been aware of a change in policy, they would see the (relatively generous) components of the financial aid package. In addition, if students were unaware of the change then it is unclear why there was an effect for minority students.

Second, it is possible that competing institutions effectively mimicked the policy change at this Northeastern university, thereby mitigating any potential enrollment effects. However, the authors show that although there was an observed increase in grant aid at this Northeastern university after the policy change, a similar increase at competing institutions is not observed. Thus the authors speculate that the reason they cannot statistically detect the incremental change resulting from the policy is that the program was too small to have had a large effect on enrollment decisions.

A second puzzle explored by the authors is why the program seems to have had a larger impact on minorities than other students. They note that since the incomes of the families of the minority students admitted under the new program are not much lower than those of the non-minorities admitted under the program, differences in family resources are unlikely to explain the different result. That said, the fact that the program appears to have had a larger effect on minorities than on non-minorities is consistent with the notion that minorities' expectations of their post-college earnings are not as certain as those of their non-minority former college colleagues. So, the authors conclude, colleges and universities should take into account the importance of expectations when analyzing and designing financial aid programs.

-- David R. Francis


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