Curtailing Financial Competition in Higher Education

Over the last forty years, public approval and political support for non-profit higher education have eroded significantly. While a resurgence of anti-elitist populism in American culture contributed, the erosion resulted fundamentally from the historical competition among colleges and universities to acquire revenue and wealth and to increase spending on non-instructional programs and amenities, as we explain in our recently published history.

This rivalry to increase revenue and spending in higher education is more than 130 years old and was applauded through the 1970s. Thereafter, the growth rate of the U.S. economy slowed, and the wages of middle- and working-class Americans stagnated. These developments undermined the justification of the longstanding competition for more revenue and spending, particularly as the list price of tuition rose and student debt grew.

Already in the 1980s, this intense rivalry prompted criticism that non-profit higher education is selfish and “greedy.” Such criticism weakened popular support for government subsidies, bolstered consideration of punitive tax measures, and discouraged some Americans from pursuing higher education at all.

The competition for revenue and wealth began in the late nineteenth century, and the wealthiest colleges and universities competed ever more intensely during the twentieth century. These schools may seem remote from community colleges, struggling HBCUs, and other kinds of colleges and universities. But, historically, elite institutions, particularly Harvard and Yale,  served as exemplars of higher education and pioneered financial practices such as annual alumni funds, national fundraising campaigns, and aggressive tactics for endowment investing that now permeate higher education. Today, virtually all 3,300 American non-profit colleges and universities establish benchmarks for raising money, and it is widely agreed that the wealthiest schools drive tuition increases throughout higher education, especially in the private non-profit sector.

Apart from eroding public esteem and political support, this financial competition stratified higher education into rigid castes of wealth with a high concentration in the small, uppermost tiers. As of 2020, the richest one percent of non-profit colleges and universities owned more than half of all endowment in higher education. The wealthiest three percent owned 80 percent of endowment, and merely one-fifth of colleges and universities owned 99 percent. This stratification and concentration of wealth suggests that higher education is inequitable and perhaps exploitative, in view of the rising list price and burdensome student debt.

Furthermore, the competition to acquire revenue implies that schools in the wealthiest tiers earned their position solely because they are more effective competitors. But this justification ignores the historical wealth advantages enjoyed by the wealthiest institutions, we explain.

Rich schools have more wealthy donors and spend less per-dollar raised. They have greater access to expert portfolio managers and can afford to hire them, as scholars observed already in the 1920s. Also, schools with large endowments can afford the risk of aggressive investment strategies that yield the highest returns. Conversely, the wealthiest schools maintain conservative rules of spending their endowment income, plowing the residual back into their capital. Finally, if they stumble, the wealthiest schools can issue low-cost bonds to cover current obligations until their risky investments recovered, like the $2.5 billion in bonds that Harvard issued during the Great Recession of 2008–09. Schools with little endowment, particularly HBCUs, find it harder to issue such bonds and typically pay more in underwriting fees to do so.

[Related: “Dos and Don’ts for Higher Ed Accountability”]

These wealth advantages have hardened the castes of higher education, preventing most colleges and universities from rising above or falling below their class. In addition, the intense competition to increase revenue, endowment, and spending distracts from other worthwhile aims of higher education. This financial model encourages the public to measure the value of a postsecondary degree in terms of a monetary investment, and undermines academic disciplines, particularly the humanities, that are thought to lead to less lucrative careers.

Finally, the financial rivalry contributes to student debt, even though the wealthiest institutions do not burden their own students with debt that they cannot repay. But the competition among these schools drives the list price of tuition, at least in the private sector, and stokes the appetite for more ancillary programs and amenities throughout higher education, including the public sector. The growing appetite for spending increases costs for less wealthy schools, driving up their price and forcing their middle- and working-class students to borrow more.

Government action will not curtail the competition. Proposed and enacted remedies are largely punitive, such as rolling back tax benefits for higher education and, above all, imposing an excise tax on the endowment income of several dozen of the wealthiest private colleges and universities, included in the Tax Cut and Jobs Act (TCJA) of 2017. These measures reduce the autonomy and initiative of non-profit schools, which is a great strength of American higher education. Moreover, such measures are not cost-effective and do not address the fundamental problem of competing to increase revenue, wealth, and spending.

Instead, trustees and leaders of the wealthiest elite colleges and universities ought to adopt a new financial model for higher education, as happened 130 years ago. Instead of trumpeting endowment gains, launching fundraising drives, and hiking tuition, the wealthiest elite colleges and universities would (1) cooperate rather than compete, (2) disavow the goal of maximizing wealth, revenue, and spending, and (3) aim to strengthen all of higher education, rather than just themselves. In practice, this new model would require sharing their wealth advantages and their endowment income.

But why would leaders of the wealthy elite schools ever agree to change the practices that have secured and preserved their advantageous position? Self-interest will motivate them, we maintain, for the sake of their own institutions and the entire non-profit sector of higher education.

Under the TCJA, about thirty of the wealthiest private colleges and universities are paying tens of millions of dollars of excise tax annually on their endowment income. For example, Harvard and Stanford have each paid some $45 million annually. These universities could spend this money much more efficiently and effectively than the federal government, while rebuilding public esteem and political support for themselves and all of higher education. If they do not act, the 1.4 percent tax will likely never be rescinded, but increased, and other punitive measures will follow.

Instead, carefully designed sharing of their wealth advantages and spending minimal (to them) amounts of their annual endowment income can rebuild public esteem and political support, in line with the new financial paradigm above.

[Related: “Why the New Student Aid Formula Spells Trouble for Families”]

One no-cost example would be for wealthy schools to require that their highly paid portfolio managers provide gratis investment expertise to little-endowed schools who cannot afford or even access those managers, as The Common Fund, sponsored by the Ford Foundation in 1971 aimed to do. Another example is for the wealthiest schools to guarantee the bond issues of  selected non-wealthy schools, easing their access and lowering their underwriting costs in bond markets.

One low-cost example of sharing wealth occurred in 2020 when the University of Pennsylvania pledged to contribute $10 million annually for ten years to renovate aging school buildings in Philadelphia. Penn instead could have spent the total $100 million on its own programs, but chose not to. Why would the university do this?

Penn could afford the pledge; the market value of its endowment increased by 38 percent, or $5.6 billion, in the following year. Meanwhile, the Philadelphia mayor and school board publicly and effusively praised the university. No plaudits for Penn’s payment of the TCJA tax have appeared in print. Finally, what economist Howard Bowen called the “equi-marginal return” (often termed “effective altruism” today) from spending $10 million on renovating the school buildings is likely greater than the return from a wealthy university spending those dollars on its own programs.

Similarly, other wealthy, elite schools could draw on their residual endowment income, which is often plowed back into their endowments due to conservative spending rules, to subvent carefully designed programs at selected, needful colleges. In this way, wealthy elites would be helping to rebuild public esteem and political support for themselves and all of higher education.

And, if only a few of the wealthiest elite schools adopted this new model, the rest of the 3,300 non-profits would gradually replicate it, just as they did in establishing annual alumni funds, national fundraising campaigns, and aggressive endowment investing over the past century. Isomorphism reigns in higher education, and emulating the wealthy, elite schools remains the norm.

Today law schools throughout the country have begun to follow Yale Law School and Harvard Law School in challenging the rankings issued by popular magazines, which all law schools have long derided. Curtailing financial competition in higher education requires only that the leading, wealthiest universities to show the way.

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