Authoritative reports say that over the next few years, Drexel will adopt responsibility center management, or RCM. This is one of several models for university budgeting, each of which has some known advantages and disadvantages. A number of universities, including our next door neighbor, have practiced RCM for some time. It has been discussed at Drexel before, and, I think, tried to some extent, but it has never “stuck” at Drexel.
The idea behind RCM is what we hotshot economists call “incentive compatibility.” By allowing each college to keep the tuition revenues generated by enrollment of students in that college, it would encourage the colleges to undertake new initiatives to increase enrollment, thus building the University. To paraphrase the famous words of Adam Smith, as every [dean] … endeavors as much as he can … so to direct [his college] that its produce may be of the greatest value, every [dean] necessarily labors to render the annual revenue of the [university] as great as he can.
A difficulty is that if each college keeps the revenue it generates, nothing is left to pay for the common overheads such as the library, computer center, servers, administrative salaries, and perhaps (depending on details), service courses such as English and economics. As a result, the colleges are never allowed to keep all of the revenues they generate; instead they must pay “taxes” to support these common overheads. But as any free-market economist will tell you, taxes distort incentives and thus reduce, and may even eliminate, incentive compatibility.
This is one aspect of a deeper problem: complementarity. Suppose, for example, that the activities of the business college increase the productivity of the arts college by 20 percent. Thus, we say that the activities of the two colleges are complementary. Who should get the credit for that 20 percent? The arts college (whose productivity it is) or the business college (without whom the increase in productivity would not exist)? In the interest of incentive compatibility, both should receive credit for it — take away either college and the 20 percent is lost. But there is no way that both can keep the 20 percent!
This problem was discovered in the 19th century by the great early Austrian economist Friedrich von Wieser. His idea (to which many economists still subscribe) was that all individuals in the economy should be compensated with their “marginal productivity.” But Wieser found that, if there is complementarity, the marginal productivity payments would add up to more than the total product. This is what we saw in the example in the last paragraph, as it is not possible for both colleges to keep the 20 percent.
I have to say that most of my colleagues in economics do not understand this problem. Complementarity is usually expressed in mathematical terms, and it leads to “intractable” mathematical problems. The accepted response in modern economics is to assume it away to make the mathematics easier. But we cannot assume it away in real organizations such as Drexel University. In fact, the problem of efficient incentive-compatible organization in the presence of complementarities is an unsolved problem. It may be solved someday. Perhaps a Drexel student will solve it. But RCM is not a solution. RCM is a decision to choose one set of problems rather than another set of problems.
Roger McCain is a professor of economics at Drexel University. He can be contacted at firstname.lastname@example.org.