The College Cost Dilemma, Part 2: Endowment Spending

This is the second article in a series on the price of attending college, both in general and at Swarthmore. Also see the first article.

A common refrain among Swarthmore students is, “With a billion and a half dollar endowment, why can’t we….” The student might be talking about getting nicer bathrooms, or a drain for the tunnel between campus and the athletic fields; more often than not, though, they will be complaining about the forty-five thousand dollar price tag.

The Senate Committee on Finance seems to be asking the same question. Max Baucus, the chair, and Chuck Grassley, the ranking member, sent a letter in January to colleges and universities with endowments of at least $500 million asking for information on how their endowments are spent, as well as on their history of tuition and financial aid.

Swarthmore’s endowment, last valued at $1.44 billion, is the 49th largest among all American colleges and universities and the 13th-largest on a per-student basis. Its proceeds will fund 52 percent of next year’s budget: more than most schools. Yale, for example, got 37 percent of its operating budget from its $22.5 billion endowment this year.

Although these concerns about cost to student in the face of massive endowments certainly seem reasonable, according to the College’s Treasurer Suzanne Welsh and her counterparts at other institutions, it would in fact be unreasonable to spend more. Welsh explained how her department arrives at a spending decision.

The purpose of the endowment is to provide financial support and sustainability to the college. First, it must help provide for the present operation of the College; if it did not, tuition bills would be far higher than they are now — closer to $78,425, the number cited by the College as its per-student cost excluding all financial aid. Second, the endowment must still be capable of providing the same support into perpetuity; to do otherwise would be irresponsible to later generations of Swarthmore students.

In order to sustain the real money value of the endowment it must grow and keep pace with the college’s costs. . Since the majority of the budget pays compensation for faculty and staff, costs tend to increase at higher rate than the predicted standard CPI inflation metric. In order to remain competitive for faculty, the budget for salaries must also increase.

The endowment’s main goals must be balanced in the spending decisions. Only the interest of the endowment is spent rather than the actual endowment money itself. Part of the earnings supporting the budget while the rest is reinvested into the endowment.

The process of deciding how much of the earnings are spent is “very mathematical,” Welsh said. Initially, the expected long-term returns are calculated, based on the historical performance of each of the various types of investments that comprise the endowment: mostly stocks and bonds, as well as some other types of assets. From those numbers, the Investment Office “comes up with what we think is a good long-terms earnings expectation, based on historical results.”

Ideally, “whatever you reinvest in the endowment should match your expected growth rate in your costs.” Subtracting the expected growth rate in costs from the overall earnings assumption yields the planned spending rate. For Swarthmore, this ends up being around 4.25 percent.

Swarthmore’s spending rate parallels peer schools: Williams spends about five percent, Amherst between 3.5 and five, MIT a little more than five. Yale has traditionally spent less, this year spending 3.7 percent (of which almost a third went to endowment managers); beginning next year, however, it will establish a 4.5 percent minimum spending rate.

When predictions end up being wrong, however, spending is flexible. For example, the endowment has done well in recent years; because of this, the College felt justified in starting the new no-loans program without first obtaining guaranteed funding, understanding that the endowment could back it while other funding is being obtained.

However, the Senate Finance Committee thinks that 4.5% isn’t enough. Private foundations are required to spend at least five percent of their endowments each year and the SFO wants to institute a similar requirement for colleges.

College treasurers worry that such a regulation could be disastrous because the management of college budgets are different from those of a private foundation. In addition to probably being higher than a “relatively conservative” endowment like Swarthmore’s could sustain over the long term, this requirement is entirely missing the point.

Currently, although schools aim to spend around four or five percent, the actual percentage spent is not what really matters to them. That is, as Welsh said, “just a number on a piece of paper.” The salient figure is instead the amount contributed to the budget.

Treasurer of Amherst College, Peter Shea, said “With a big increase in the endowment value in one year,” like the one Amherst had last year, “the spending rate will automatically go down — since you’ve already established the amount how much you’re going to spend in the operating budget.”


The College’s endowment spending since 1950, from the 2006-07 Financial Report. The exponential-looking line is the spending per endowment unit, the more horizontal line is the spending rate.

Although Swarthmore’s spending rate has fluctuated, the actual dollar figure contributed to the budget has increased steadily: “Going back as early as we have good records, we’ve been able to increase the spending from the endowment every single year,” according to Welsh.

If spending were tied to be a specific percent of the endowment, these increases may not have been possible. The endowment supports more than half of the College’s operating budget, and its value naturally changes from year to year according to the markets. This year, for example, the endowment “may well go down…[because of] the various disruptions that you may be reading about in the financial markets.” Despite this, next year’s budget, which has already been approved, still calls for more real money spending from the endowment than last year.

“We can’t manage the institution very well if our major revenue stream is going up and down.” As such, the College varies its spending rate in order to smooth out the spending value.


The Carnegie Corporation’s recent spending history.

Private foundations, however, do change their budgets significantly from year to year. The well-known Carnegie Corporation, for example, which has a capital fund of about three billion dollars, spends 5.5 percent of their endowment’s value per year. According to their website, this approach “helps sustain the Corporation’s grantmaking efforts in bad times as well as good.” Yet their budget goes up and down by as much as thirty million dollars a year, as shown at right.

According to Shea, “If [private foundations] have a good year and they spend five percent of it, fine; if they have a bad year, they just give out less money…. [But] we have an operating budget to support, year in and year out. We can’t live with that kind of fluctuation.” Welsh agreed: “What would we do [in a bad year]: give all our employees pay cuts?”

Most importantly, according to Welsh, the main purpose of an endowment is to spent. “As institutions, it’s not like we’re hoarding our money,” said Welsh.

Although Welsh hesitates to make any predictions about Congress’s next plan of action, especially because it is an “enormously complicated issue” that “certainly resonates with the public,” she expects a drive for more transparency in how endowments are managed and spent. “I don’t think that will be a problem for us, because we’re already doing it.”

Indeed, the College publishes detailed reports on its finances each year (see last year’s report [pdf]; more on the investment office homepage). The College does not, however, reveal most of the firms who manage the endowment.

In response to the congressional move towards the mandate Baucus and Grassley have received “a lot of very intelligent responses” to their letter, according to Welsh. “hopefully they will realize that the five percent spending rule is a bad idea.”

Check back tomorrow for a look at how effective the financial aid program has been in light of these limitations.


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