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What is the purpose of a university endowment?
It is a pressing question in the age of coronavirus, with universities -- even wealthy private ones with generous endowments -- facing massive budget shortfalls. There has been much discussion lately about tapping into such endowments’ unrestricted liquid funds during the crisis.
Saving and investing now may seem the obvious path. After all, as Princeton University’s former president Shirley Tilghman put it in 2008, “The endowment does not function as a ‘piggy bank’ or ‘rainy day fund’ waiting to be used or allocated.” Yet that is only part of the story, for wealthy universities do spend a target amount of endowments each year, usually around 5 percent, although that strategy may not be optimal at this moment.
Recently, Princeton, where I’m a graduate student, opted temporarily to spend a slightly higher percentage of its endowment in order to smooth out operations. Yale University did too, as its president, Peter Salovey, communicated a week earlier: “When the value of the endowment drops, we spend a greater percentage of the endowment’s value than when the endowment’s value is rising.” Nonetheless, this approach may not be sufficient. Wealthy elite universities should carefully consider the moral case for increasing spending even more from unrestricted endowment funds.
Endowments are designed to fulfill the university’s mission in perpetuity. With compound interest and economic growth, they can be used to build multigenerational wealth and make capital available for vital projects in the future. In the case of university endowments, investing unrestricted funds provides returns that can be used for future operating expenses. Of course, a large proportion of funds is restricted to the uses that donors in the past specified or tied up in illiquid assets like real estate, but not all. At my university, the endowment was valued last year at around $26 billion, and while liquidity varies, just under half does not have donor restrictions.
As the coronavirus shutdown has sent many interest groups within the university into budget crisis, endowments can seem like a welcome shelter from the storm. Consider the precarious situation of graduate students. Incoming students will find libraries closed, laboratories shuttered and conferences canceled. In turn, those who have finished grad school stand to face a virtually nonexistent job market; without postdoc positions, visiting professorships and other stopgap measures, they risk being edged out of academe entirely. Hundreds of graduate students and faculty members have recently petitioned Princeton to add a year of graduate student stipends across the board, drawn from unrestricted, liquid endowment funds, to help mitigate disruption from the coronavirus shutdown this year. Would that allocation be wise?
Imagine that Princeton could provide an extra year of living stipends, including health insurance, at a cost of $40,000 per each of its roughly 2,500 graduate students, or a total cost of around $100 million, as suggested by students, faculty and staff members in their petition. This approach would help mitigate disruption from the coronavirus shutdown this coming academic year. Let’s call this Scenario A.
Alternatively, Princeton could keep that $100 million invested in the endowment. That sum could grow, compounded at a conservative 5 percent over a century, to a whopping $13 billion in the year 2120. (Remember, this is the time scale that university endowments are theoretically operating on.) Let’s call this Scenario B. We can expect the cost of per graduate student to increase due to inflation of around 2 percent per year. Even adjusting for that inflation, Scenario B could still fund a year’s support for 18 times as many graduate students -- a veritable army of 45,000 researchers in training -- as Scenario A. (Over 20 years, it supports 1.79 times as many; over 50 years, 4.3 times as many.) It seemingly makes a good deal of financial sense to go with Scenario B.
But this reckoning is not so simple. In our present circumstances, tapping into endowment funds now, rather than in the hypothetical future, would better fulfill the endowment’s long-term, university-supporting purpose -- even when taking the compound interest of Scenario B into account.
A Complex Choice
To start, how likely is Scenario B to go off without a hitch? The estimate, that today’s $100 million could grow to $13 billion over a century, is based on assumptions of steady growth and low inflation. In the 1990s, Yale Law’s Henry Hansmann wrote about endowments that “there is every reason to believe that, over the long run, the economy will continue to grow in the future as it has in the past.” Today -- given everything from political instability to pandemics to ecological collapse -- that assumption no longer seems self-evident.
Even if that initial $100 million investment matures into $13 billion, that future benefit can only be fully realized if the academy as we know it persists. Graduate education, which is necessarily future oriented, is again a useful example. If Princeton provides graduate students more years of funding and postdoc opportunities today, new Ph.D.s will have a better chance of actually building academic careers and writing in conversation with their former advisers, ensuring scholarly continuity. By investing in graduate education now, universities like Princeton will keep producing knowledge and fulfilling their long-term mission.
The choices universities make now will also affect the future composition of the professoriate. Under Scenario B, where universities keep their funds invested in the endowment, wealthier graduate students from any institution would face the brutal job market at an even greater than normal comparative advantage over their less affluent peers. The professoriate would then revert back to consisting primarily of the independently wealthy, a great leap backward in a profession still struggling to be inclusive. In contrast, elite institutions that minimize disruptions today by drawing funds from their endowments -- Scenario A -- could have an advantage: their graduate alumni might find assistant professorships more easily than those at universities that chose austerity, thereby increasing not only diversity but their own prestige, as well.
Still, endowment size is closely tied to reputation among elite universities. As the University of Pennsylvania’s Peter Conti-Brown argued in 2011, “Universities use their endowments as a symbol of prestige and a point of competition between peer institutions.” In rebounding from the 2008 economic downturn, many chose budget austerity over endowment spending to save face in this way. However, when institutions opt for rigorous discipline, their brands might suffer in other ways. Some law firms during the 2008 crash, for instance, backed out of their human resources commitments; their actions hurt their future recruiting efforts and their reputations more broadly. A similar dynamic could occur for wealthy universities who keep their heads down and stay invested.
Without the full byzantine accounting of a university’s finances, of course, no one can make firm, conclusive policy recommendations. In any event, every number is a moving target: endowment valuations may shrink for months or even years. Other revenue sources are likely to dry up, like international student tuition, and even regular tuition receipts may shrivel significantly. More liberal spending policies now may also influence the behavior of donors to come, whose gifts matter tremendously -- even disproportionately, as private fortunes continue to grow -- for the future strength of endowments. I do not envy the university administrators who face the effects of coronavirus in addition to uncounted financial and legal liabilities.
That said, the returns on unrestricted endowment funds are not categorically untappable, either. Smoothing policies vary; one study found that doctoral universities over all have tended to keep endowment spending flat during exceptional growth years while cutting back after negative shocks.
The critical question is: By how much? If they keep spending flat, can they prop up more programs? Which ones? The answers to these moral and, yes, political questions in the coming months will prove crucial to graduate students, adjunct instructors and other community members thrown into precarity. As the finances of wealthy universities fall under greater public scrutiny, administrations may need to communicate more transparently how they weigh these trade-offs. Not only Princeton and Yale but also Harvard University, Stanford University and the University of Pennsylvania all recently rejected federal CARES Act funding, and although they gave multiple reasons for doing so, their actions implicitly indicated that they already possess sufficient local resources to withstand the coming tempest.
Nearly every industry is reeling now, and nearly all elite university stakeholders stand to suffer in some way. Why should today’s small cohort of graduate students at wealthy schools be exempt and receive an endowment-funded bailout? Why should any other university program?
Because it might be the rational choice for university trustees. If their goal is to continue into the deep future, then spending more now could better prop up the university’s scholarship-driven mission than hoarding in strict deference to the dollar. The example of graduate student funding illustrates how, in this wager against the future, austerity is partly a moral calculus. For funds can grow with compound interest, but so too can ideas.
