To Understand the High Cost of Colleges, Think of Them as Investment Banks

A growing endowment generates wealth. A small part of that wealth is invested to bolster an administration tasked with generating prestige, and, as students rush to take out federal loans, raising tuition and fees.
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Students walk through the campus of Yale University on September 27th, 2018, in New Haven, Connecticut.

Students walk through the campus of Yale University on September 27th, 2018, in New Haven, Connecticut.

College tuitions are out of control.

report released last month by the Organisation for Economic Co-operation and Development, an intergovernmental contingent focused on economic progress, found that the United States spends spend twice as much on higher education each year—about $30,000 per student—than any other country in the world. Commenting on these findings, Andreas Schleicher, director of education at OECD, said, "The U.S. is in a class of its own."

To be sure, the cost of higher education continues to soar around the globe, and discovering the reasons behind this explosion has become a cottage industry unto itself. In his book Why Does College Cost So Much?, economist Robert Archibald identifies what is perhaps the most general economic explanation for the inflated cost of an American college education: Universities here provide services, not products. As such, their costs do not necessarily decline with technological innovation, as happens with durable goods. Additionally, universities provide a service that cannot easily rely on uneducated human automatons, much less machines, to carry out.

Sensible as this explanation is, it does not account for the U.S. being in "a class of its own." Costs have not risen so rapidly at universities in Canada or Europe. To begin understanding why that is, we might try a thought experiment: What if we understood leading American universities less as educational institutions, and more as investment banks?

Start by comparing the endowments of elite universities in the U.S. and abroad. Harvard University's endowment is around $36 billion. Yale University's is near $30 billion. The University of Texas–Austin is close to $27 billion. The University of Michigan and Texas A&M each stand at $12 billion. By contrast, Cambridge University and the Colleges at the University of Oxford have endowments around $6.5 billion. The University of Edinburgh is around a half billion. McGill University, in Canada, is at about $1.3 billion.

The reason for this disparity is clear enough: Universities overseas don't need massive endowments. They are well-supported public institutions. As such, they can focus on being universities rather than banks. In the U.S., though, even public universities (which have seen dramatic cuts over the last 20 years) must rely on ever-increasing endowments to support themselves. Public or private, endowments exceeding the gross domestic product of major countries make many of these institutions—for all intents and purposes—investment banks.

But why the inflated tuition? For one, larger tuition costs can minimize the endowment's support of the university, leaving more dividends to reinvest. You thus need $43,280 a year (all figures are minus living expenses) to attend Harvard; $49,480 for Yale; $35,682 for an out-of-state student at UT–Austin. By contrast, under less pressure to increase its endowment, Oxford, Cambridge, and University College of London cost only $11,700 a year. McGill is around $15,000.

Of course, universities with endowments that range in the tens of billions (and have returns around 12 to 16 percent annually) could easily cover four years of tuition for every student. But they don't dare. As many have noted, doing so would lower the school's—and thus the "bank's"—level of prestige. Hence the other reason for the high tuitions: status. More precarious in the U.S. than in Europe, educational status sparks demand, increases competition to get in, and motivates more students to borrow money to enroll. Why lower tuition, and risk a dip in prestige, when the federal government is on hand to make loans—or authorize banks to make loans—to students who could otherwise never afford such price tags?

As with investment funds, a university endowment's financial returns do not always shake out equitably.

The losers are students and faculty. To pay the prestige-insuring, ever inflating cost of college tuition, they are falling more and more into debt while spending less and less time on their studies. Over the last decade, according to a recent Bloomberg report, "student loans have seen almost 157 percent cumulative growth." To manage these loans, students are spending more of their college years working than going to class.

Faculty have also suffered. The sharp rise in adjunct professors—who are now half the faculty at four-year colleges—cuts teaching costs for universities but reduces academic life to poorly paid contract labor. Recent reports show many of these professors to be living below the poverty line, and sometimes out of their cars. Between 1975 and 2011, tenure-line hiring of full-time university professors dropped by half. This trend bears on elite universities as well as lower-tiered schools. (Fifty-five percent of New York University's professors are adjuncts.) Adjuncts are often terrific teachers. But they do not benefit students who want letters of recommendation, much less the opportunity to get to know a professor who can, through her stable institutional affiliation, help that student professionally.

While students and faculty suffer the consequences of the investment-bank approach to education, university administrators win—and win big. The pursuit of prestige is pricey. It helps for a university to appear to be everything to everyone; such a monumental task is essentially administrative. Between 2000 and 2012, new administrative positions led the university workforce to increase by 28 percent. But, again, all administrative positions. During that same period, full-time faculty and staff positions declined by 40 percent. In The Fall of the Faculty: The Rise of the All Administrative University, political scientist Benjamin Ginsberg demonstrates how administrative bloat raises student tuition while harming faculty and students, noting that, not only are many administrators former faculty who are ill-prepared for managerial work, but their inflated salaries steal bread from the mouths of scholars.

Indeed, the final indication that American universities have become necessary offshoots of investment banks lies in the wealth disparity within higher education. As administrators and adjunct faculty proliferate, and as university presidents behave more and more like corporate chief executives, imbalances between a university's highest-paid and its average-salaried employees look more and more like corporate America. According to 2015 numbers, Texas A&M's president was paid $1.1 million; the average adjunct made about $20,000. The University of Buffalo, Pennsylvania State University, and the University of Alabama–Tuscaloosa have similar gaps, as did many others.

When the presidents of major American universities make 60 times more than adjunct professors, something within the institution has fundamentally shifted. That shift looks like this: A growing endowment generates wealth, a small part of that wealth is invested to bolster an administration tasked with generating prestige and, as students rush to take out federal loans, raising tuition and fees. Students graduate shackled with debt while the endowment grows stronger and stronger. Given this scenario, it's time to stop thinking that universities are places of higher learning.

Let's call them what they are: investment banks.

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