Higher Ed’s Financial Roller Coaster

Higher education is the third-largest budget category of state spending. Total state spending on public higher education in the United States reached a whopping $108.1 billion in the 2022 fiscal year. However, nationwide higher-education support has shrunk from 10.2 percent of total state budgets in the 2019 fiscal year (before the pandemic) to 8.7 percent in the 2022 fiscal year. That rapid change in spending levels over a short period has resulted in an unpredictable environment. Predictability is crucial for effective planning and budgeting, and surprises can strain an institution or state system even in times of increased funding.

As a new book I edited shows, predictability matters. The higher-ed researchers who contributed to the volume show how structural challenges in state budgets result in a funding roller coaster for higher ed. The upshot has been decades of unprecedented breakdowns in the relationships between state governments and public colleges, both during state-budget negotiations and during post-allocation rescissions of appropriated funding, when that money is unexpectedly returned to the state between budget cycles.

For example, in Illinois, almost no funding for postsecondary institutions was appropriated during a 793-day state-budget impasse, a crisis that spanned the 2016, the 2017, and part of the 2018 fiscal years. The reverberations of the impasse, when no state funds reached campuses, are still felt today. Funding has not yet recovered to pre-impasse levels. One report estimates the impasse led to enrollment losses of more than 72,000 students in Illinois’s public institutions and nearly 4,900 higher-ed job cuts. The economic hit came to nearly $1 billion during each year of the impasse.

Institutions in Pennsylvania endured eight and a half months of uncertainty during the 2015-16 academic year, when a state budget was not enacted on schedule. While some institutions received low-level funding through a stopgap budget, nearly eight months passed — the equivalent of almost a full academic year — before a state budget was approved.

In Louisiana a state revenue shortfall resulted in large midyear cuts for institutions in 2015-16. It was not the first time that they faced midyear rescissions. With state-funding clawbacks, institutions turned to students to help keep their doors open, and many students faced unplanned tuition increases between the fall and spring semesters. That, it turns out, is not so unusual. In 2002 students in Massachusetts, Missouri, Ohio, and South Carolina all faced midyear tuition increases. The University of Cincinnati had not one but two midyear tuition increases in 2002-3 that together resulted in an unexpected 6-percent jump, which followed an 8-percent rise before the start of the academic year.

Today, as $76 billion in federal stimulus money from the pandemic dries up, state budgets for higher education have been destabilized across the nation. In Connecticut, public institutions are facing cuts of up to one-fifth of their total budget over the next two-year budget cycle, with most of the cuts aimed at the state’s regional institutions. Volatility is also hitting West Virginia University hard, with unpredictable energy markets whipsawing state revenues, a fraught political environment in the state Legislature, and reverberations from pandemic-related instability. Not surprisingly in a people-heavy sector like ours, those cuts are spurring talk of layoffs and tuition increases. Institutions continue to worry about a “fiscal cliff,” and, in some cases, they close.

While cuts in higher-ed spending draw the most attention, unpredictable increases, too, can exacerbate volatility. Bowen’s Revenue Theory of Costs, originated by Howard R. Bowen (an economist who also served as president of Grinnell College, the University of Iowa, and the Claremont Graduate University), posits that institutions raise all the money they can and spend all the money they raise. However, an insatiable appetite for more funding is not always in the best interests of the sector. That traditional frame of straightforwardly viewing cuts as problematic and increases as positive is too simplistic: It underemphasizes the underlying structures of the systems that higher ed relies on for public support and overlooks the importance of predictability in funding. After all, colleges commit to serve students for periods that far exceed the next state budget or election cycle.

Furthermore, if funding increases are not sustainable within state budgets, increases in one year can yield deeper cuts in future years. And because the bulk of institutional budgets are expenditures on people, this boom-and-bust pattern could shift hiring practices — colleges could chase financial flexibility by hiring adjuncts instead of tenure-track faculty members. Additionally, institutions generally treat all increases as setting a new floor for funding levels, which leads to surprise and disappointment when high-funding years are not sustained in the long term.

Why is higher ed such a volatile sector?

The role of higher education in state budgets and its status as a large, discretionary spending category cause the sector to be more closely tied to the business cycle than are most other state-budget categories. In short, higher education serves as a balance wheel in state budgets. The balance-wheel hypothesis posits that, during prosperous budgetary times, states increase higher-education funding at a faster rate than other state-budget categories. Conversely, during economic downturns, states cut higher-education appropriations more quickly and more severely than other categories.

Because higher education has the ability to raise outside revenue, which it does by charging tuition, it is a politically attractive area for cuts during downturns. State-budget cuts in the sector are often associated with tuition increases. As a result, at the same time students and their families are feeling squeezed by an economic downturn, tuition increases kick in, limiting access to a college education.

Exacerbating the problem, there is evidence that the balance-wheel pattern is lopsided, with smaller increases during “good” economic years and larger cuts during “bad” economic times, resulting in a general ratcheting down of higher-education support by states. In addition, the time to recovery after a cut in state appropriations has been lengthening. In the 1980s, recoveries to prior funding levels were predictable and quick, but recoveries slowed in the 1990s. By the 2000s, a return to prior funding levels could take more than a decade, if it happened at all.

Higher education’s stronger tie to the business cycle poses challenges especially for public institutions that are most dependent on state support for their operations. Compared with flagship institutions, less-selective, open-access, regional, rural, and community colleges typically derive a larger share of their budgets from state funds. Because less-selective institutions tend to serve students who rely more on state student aid, there is a double impact when volatility hits both general appropriations and state student-aid programs. Volatile business cycles are typically felt more intensely by less-selective institutions with many high-need students. In addition, the combination of higher education’s role as a discretionary-spending category and balanced-budget requirements (in all states but Vermont) makes it nearly inevitable that higher ed will be cut during economic downturns.

Historically, the effects of such downturns increase enrollments by pulling more students into college for retraining. At the same time, more students qualify for more need-based aid due to constrictions of family incomes. Those dual trends increase pressure on institutions to find additional resources to support more (and more needy) students. The pressures hit in the same moment that typically both state appropriations to institutions and state student-aid programs are cut. Unfortunately, that confluence can degrade educational quality.

It’s no wonder that, facing unreliable state funding, risk-averse institutions increasingly engage in activities designed to increase revenues that are not always in the best interests of the state, students, or families. The volatility conundrum serves no one’s interests — neither the state legislature’s nor the state resident’s nor the institution’s. Solutions to that quagmire (like rainy-day funds, the institutional ability to roll over funds year to year, making higher education a nondiscretionary budget category, developing dedicated revenue streams, etc.) will not come easily, especially if campus leaders and state policymakers continue to focus exclusively on levels of funding.