Regulation of Program Supply in Higher Education Lessons from a Funding System Reform in Flanders Stijn Kelchtermans and Frank Verboven ♦ January 2008 Abstract It has become well documented that the performance gap between European and US universities is at least partly due to lower spending on higher education in Europe. Rather than raising the public budget or promoting private contributions, many governments have attempted to make public spending more efficient in various ways. This paper reports on results from a proposed funding system reform in Flanders (Belgium), which aimed to save costs by reducing the diversity and duplication of study programs. We draw the following lessons. While reducing program diversity may save on fixed costs, this is typically insufficient to compensate for consumer surplus losses due to low student mobility. Furthermore, decentralized financial incentives mechanisms may be ineffective since they may often promote program cuts when this is undesirable, and vice versa. These findings illustrate the difficulties with regulatory reforms that mainly aim to reduce costs. Hence, the question how to raise total spending on higher education (whether through public or private means) cannot be avoided. JEL Classification: I2; I23; C25 Key words: higher education, program diversity, student mobility, policy reform ♦ Kelchtermans: Catholic University of Leuven and Hogeschool-Universiteit Brussel (Ehsal/HUB). Email: Stijn.Kelchtermans@hubrussel.be. Verboven: Catholic University of Leuven and C.E.P.R. (London). Email: Frank.Verboven@econ.kuleuven.be. We would like to thank Koen Debackere, Mathias Dewatripont, Geert Dhaene, Manuel Bagües, Natalia Zinovyeva, Paula Stephan and Reinhilde Veugelers for useful comments. Financial support of the Belgian Federal Science Policy Office (Interuniversity Attraction Poles P5/26) is gratefully acknowledged.