Why is childcare so expensive?

The papers are full of stories about the increasing cost of childcare. But at the same time, nursery staff are underpaid, overworked and snowed under with paperwork — and still love the children to bits. How does that work? How can child care be so expensive while nurseries are struggling? Where’s the money going?

Let’s check some figures first, to check that the papers have their facts right.

Review of childcare costs: the analytical report

We need to take inflation out of the picture here – if everyone earned 10% more and everything, including childcare, cost 10% more, there wouldn’t be anything to discuss. What we care about is the inflation-adjusted or real cost of childcare. From the table above, you can see that childcare has gone up by about 65% over a decade while inflation has gone up by about 30%. This means that the real cost of childcare has gone up by 35%. That’s a lot!

So, where’s all that money actually going? Here are some breakdowns for the UK (2015) and US (2017):

There’s no wastage there; nurseries don’t build Olympic swimming pools. If prices are going up, and there is no obvious waste, what’s happening?

Short answer: economics.

Longer answer: we don’t, intuitively, think about inflation the right way. Inflation measures the average increase in prices. Some prices go up more than the average; some go up less, or even decrease.

Once you subtract out inflation, i.e. once you look at real prices, some will increase and some will decrease. It’s got to be that way; having all prices increase faster than inflation is as impossible as having all children be above average. This graph illustrates it beautifully:

Inflation is an average of many prices. Prices of some thing, such as TVs or broadband internet, have dropped much faster than inflation. This means that other prices must have risen faster than inflation.

Now, which real prices drop, and which increase? It depends on changes in productivity, or the number of person-hours needed to produce different things. In some sectors, over time we have been able to do more with less. For example, automation means that it takes many fewer person-hours to make a car in 2019 than it did in 1969. This means cars are much cheaper to make, and so the price of cars goes down faster than inflation, i.e. the real price of cars drops. Because there are sectors like this, there must also be sectors where the real price increases, like higher education in the graph above.

What about childcare? Looking after a dozen children for a morning takes at least as many person-hours as it did 50 years ago. It may even now need more person-hours as nurseries have become more regulated. So productivity in the childcare sector has stayed the same, or perhaps even gone down. This means that childcare will be one of the sectors where real costs go up.

That’s still not the end of the story. Think about a sector that becomes more productive – for example, secretarial work when typewriters were introduced. In a competitive economy, people are paid more when they become more productive – if they weren’t, other firms would lure them away. So we’d expect secretarial wages to go up when typewriters became widespread.

When secretarial wages go up, more people decide to become secretaries. Some people who would worked in childcare instead become secretaries. Then there are fewer childcare workers, so nurseries find it harder to get staff and have to raise their wages. The higher wages pull people back into childcare but, more importantly for us, also raise the real cost of childcare even more.

This effect is called Baumol’s cost disease. For a really excellent discussion by professional economists, see Why are the Prices so D*mn High by Eric Helland and Alex Tabarrok.

By the way, there’s no reason to expect these effects to stop. Over the decades, we are likely to see real prices of stuff (computers, TVs, etc.) drop more; that will mean real prices of services like childcare must go up. Then Baumol’s cost disease will push childcare wages up, pushing up costs even more.

I should say that these aren’t the only reasons costs are rising. There are a few more reasons I can think of. First, over the last 50 years, as more mothers have gone into the labour force, the demand for childcare has gone up. That means there’s more demand for childcare workers (and nursery buildings, and so on); that means childcare wages would need to go up to attract more people into childcare; and that means childcare costs will go up.

Second, in the UK, changes in the minimum wage have increased the cost of providing childcare; at the same time, free hours have increased the demand.

Finally, real prices can’t all go up but real wages can; that’s economic growth. When the economy is growing fast, real wages also rise fast; that is, wages rise a lot faster than inflation. At such times, even if childcare costs are also going up faster than inflation, we feel it less. Since the financial crisis, growth has been slow and so the increasing childcare costs are more noticeable.

One last example may give a common-sense perspective on this. When caring for 2-year-olds, a UK nursery must have at least 1 adult per 4 children. A good rule of thumb is that the cost of a company employing someone (taking into account rent, employer taxes, etc.) is twice their salary — so a nursery will need to pay 2 salaries per 4 children. That means a place for a two-year-old will cost half a playworker’s salary. The only ways to bring down that cost are to

  • Pay playworkers less
  • Change the 1:4 ratio
  • Reduce overheads

Playworkers already earn a pittance, and anyone who thinks they should earn even less should be stranded on a desert island. (A small one.) Having one adult look after more than four small people who have just learned to run and climb is just not safe. And the graphs near the start of this article show that around 85% of the spending goes on salaries, rent, supplies and food.

An important note here: when the government subsidises childcare, that doesn’t reduce its cost; it just affects who pays. I don’t mean that as a political point, but an economic one: childcare needs a lot of economic resources, and subsidising it via taxation won’t change that. It’s just unavoidably expensive, because it needs so many person-hours. (Whether or not childcare should be centrally funded is a question I won’t address here.)

So when you see headlines like these…

https://www.theguardian.com/money/2015/jan/01/childcare-costs-nearly-half-average-salary-labour-analysis
https://www.telegraph.co.uk/news/2019/02/28/going-nursery-now-expensive-going-university-analysis-finds/

What would you expect to be more expensive? A nursery where one adult can watch four toddlers, or a university where one adult can give a lecture to a hundred undergraduates?

Key science, with sources. Minus bad statistics. Minus shaky methodology. Minus politicisation, left or right.