It has been said that these days top-tier universities are just hedge funds with admissions departments. Many US university endowments are well over a billion dollars and endowments here far overshadow university endowments in the rest of the world. And those numbers just keep going up. In a single year, from July 2020 to June 2021, the top 4 endowments (Harvard, Yale, Stanford, and Princeton) increased their combined value by 33% from $127.24 billion to $171 billion. This is the reason why Harvard’s highest paid employee is the head of their endowment.

According to an American Council on Education study of college and university endowments, “50 years ago, a donor wishing to endow professional professorship at a major university could’ve done so with the gift of about $700,000.” As they point out, the gains alone used to be sufficient to pay a professor’s salary, but so often the gains have been spent to try to keep pace with salary needs and now the principal is all that’s left, and no chair could be funded with a single years’ gains on the principal alone.

Why is it important to talk about university endowments? The old adage of “Follow the Money” can help us understand why certain schools do certain things. University trustees invest their large endowments because they have a legal and moral obligation to past and present donors to ensure that the money continues to grow to be and be available if the University needs it down the road. They work to keep ahead of the rising cost of education. The lists of tuition free colleges is strikingly similar to the list of largest college endowment below. These colleges have reputations which incentivizes the best students to try to get in, and if those students get successful they are more likely to donate back to the school, letting the school further reduce the cost to attend for the next year of investments. Oops. Meant to say students.

Tuition free colleges

  • Stanford University
  • Harvard University
  • Princeton University
  • MIT 
  • Yale University
  • Brown University
  • Duke 
  • Columbia University
  • Cornell
  • UNC – Chapel Hill 
  • Vanderbilt University
  • City College of San Francisco

Endowments over $6 billion (separated by Public vs. Private)

Endowments are not an endless source of cash. The average school spends 4.6% of its endowment each year, according to NACUBO. The rates stay pretty consistent from year to year because colleges typically set the withdrawal rate and stick with it, no matter how good or poorly investments performed in the past year.

And schools say that’s the right amount if they want to keep their endowments growing, which they’re obligated to do because donations made to endowments are meant to be a gift that keeps on giving, not just a gift for any single year. As you can see from the graph above, return rates tend to hover around 6%, meaning that the school is hoping that the growth minus the withdrawal keeps them ahead of inflation.

Which, for the largest endowments, they are pretty good at doing, especially during the pandemic. The wealth transfer to the already wealthy over the past few years has not left education out. Education paralleled the wealth divide in the rest of the world with the universities who were doing well soaring to great fiscal heights, and those who were not, struggling even more just to stay afloat.

Institutions [with larger endowments tend towards] becoming more selective and enrolling fewer low-income students and students of color.

The Effect of College and University Endowments on Financial Aid, Admissions, and student composition – George Bulman, NBER

Now research indicates a positive correlation between endowment size and educational spending at private institutions. Larger endowments lead to higher faculty salaries and more educational opportunities for students.

But don’t be fooled into thinking that the institutions with large endowments are passing the savings onto our poor students. There’s plenty of evidence that shows that most of the free and reduced tuition goes to already middle-class students. Remember, the goal of the university is to ensure the best chance at large future donations, and even within the highly competitive pool of straight-A students with excellent essays, the best predictor of future financial success is having parents who were financially successful. And they will consistently be those that Harvard and other schools try to court.

There is even some evidence that says the schools become more selective the larger their endowment grows. One important factor in colleges in the US, though hopefully one that is not important forever, is the college rankings. And an important factor in college rankings is the “Freshman Yield”, or the number of students who attend the university after being accepted. For whatever reason, it seems that poor non-white students have lower yield rates, likely because of other financial or family barriers. A study by the National Bureau of Economic Research pointed out that as a university’s endowment grows, the “institutions offset higher freshman yield rates by becoming more selective and enrolling fewer low-income students and students of color”. 

One argument that was made when the Supreme Court struck down affirmative action was that the real reason Harvard didn’t want it struck down was because they didn’t want people to realize just how much their admissions were not based on academics. Harvard and many other schools enroll legacy students and students with very wealthy parents at a far higher rate because they can be depended upon to donate.

The truth is that at the top level, the universities themselves do not really think about why their endowment needs to keep growing. In an episode of Revolutionist History, Malcolm Gladwell sat down with the then current president of Stanford, John Hennessy, who manages to go from denying that Bill Gates or Larry Ellison would ever give Stanford $10 billion, to convincing himself that he could put it to some good use.

Really, this is the problem of two competing evils that are often discussed on this site. The unending greed expectation of infinite growth held by financial elites, and the messy and misaligned system that governs US News and World Reports rankings. It is unlikely that colleges will be better until someone in leadership stands up to these two pernicious trends.

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