How American Research Universities Spend Their Money

Ironically, many of the budgetary forces at universities work to drive up tuition costs and lower educational quality; and most of the reasons for this strange combination have to do with compensation.
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To explain why costs always go up at American research universities, one has to understand how these institutions spend their money. Surprisingly, virtually no one has examined university budgets in a detailed and careful way, and so it has been easy for schools to claim that tuition never covers the true cost of education. However, if we look closely at the numbers, we shall see that there is practically no relation between what universities charge and what they spend. Moreover, even though many of the top universities continue to make large sums of money, most of them have used the recent downturn in the economy to cut classes, eliminate teachers, increase class size, and inflate student tuition. To understand why this happens, we have to look at how university budgets work.

Looking Under the Budget Hood
Like many other schools, the University of California divides its revenue budget into four main parts: instruction, research, services, and fund-raising. For example, in 2009, 28% of the UC's total operating revenue of $20 billion was dedicated to instruction and research, and the main source of this money was student tuition and state funds. Another 20% of the budget was generated out of external research grants, and most of these came from the federal government and the state of California. It is important to stress that the largest sector (42%) of the budget was based on revenue generated by medical centers, extension programs, and services, like parking, dining, and housing, that are sold mainly to students, faculty, and staff. Finally, 10% of the UC revenue came from donated gifts (the endowment), and at private universities, this sector is much larger and usually helps to make up for the absence of direct state funding.

One of the first things to notice in this general revenue structure is that instruction only represents less than a third of the total budget, and this includes undergraduate and graduate instruction and related research and administration. Furthermore, even though UC is a state school, in 2009, less than 16% of its total budget came from the state and under 8% came from student fees and tuition, and this means that from a budgetary perspective, instruction and related research is only a small part of what the university does.

Inside the Pay Raise System
Another way of examining a university's budget is to look at the actual pay of the employees and see who is making what and how much their salaries are increasing. In order to pursue this analysis, I utilized a database with the salaries of 240,000 people (including students) working in the UC system in 2006 and 2008. Since I had read that most of the raises in the UC system go to people making over $200,000, I wanted to see who was making this much, what were their raises, and what jobs they did. The first thing I did was to break these employees into six basic groups: administrators, medical faculty, athletic coaches, business school professors, academic professors (non-business and non-law school professors), and law professors. These six categories accounted for over 95% of the revenue of the over $200,000 club, which had a total gross pay of over $1 billion in 2008 (out of a total university payroll of $9 billion). It should also be pointed out that none of these highly compensated employees are unionized, and so the myth that unions are driving up the costs of higher education can be dispelled by this example.

According to my analysis, the top group was the medical faculty, which had 2,296 people making a total of $680 million in 2008. This same group in 2006 had 1,748 employees with total earnings over $502 million. In other words, over a period of just two years, the UC added 550 new people from the medical field into the over $200,000 club for an additional cost of $178 million.

Another big group of high earners was the administrators and staff. In 2008, there were 397 staff and administrators in the over 200k club making a collective total of $109 million, and in 2006, the same group had 214 members for a collective gross pay of $58.8 million. This group and its collective salaries, then, almost doubled in just two years. Likewise, the third biggest group, the academic professors outside of law, medicine, and business, also experienced large increases in members and salaries of the over 200K club. For 2008, there were 415 academic professors making over $2000,000 for a collective gross pay of $96.6 million; however, in 2006, this same group had 215 employees at $49 million. In other words, the number of academic professor's outside of the professional schools making over $200,000 basically doubled in a two-year period. I want to add that during this time, the university claimed that faculty salaries in the UC system continued to fall beneath the national average, but what was really happening was that there was an incredible widening of faculty salary inequality: the rich professors were getting richer and the other professors were losing ground.

In the case of the business school faculty, in 2008, there were 372 professors making more than $200,000 for a collective gross pay of $93 million, while in 2006, there were 193 in this group for a total of $46 million. Once again the pay of this group doubled in two years: I guess they do not call themselves business faculty for nothing. Likewise, in the case of law professors, we find that in 2008, there were 85 making over $200,000 for a collective pay of $21 million, and in 2006, this same group consisted of 57 employees making a collective $13 million. For some reason, this group did not double its earnings, but it still showed a healthy increase.

The final group I examined was the athletic coaches, which in 2008, there were 24 coaches in the UC system making over $2000,000 for a collective payout of $12.8 million. In 2006, this same group had only 11 members with collective earning over $5 million. So athletic coaches in this category more than doubled their earnings in two years. What all of these statistics tell us is that this university does not have a funding problem; it has an out-of-control compensation problem. Moreover, it is the people at the top, just 1.5% of the employees who make 11% of the total compensation, and this group increased its wealth by close to 40% in just two years.

The Rise of the Administrative Class
It is clear from the data presented above that one of the driving forces for the constant increase in university expenses is this expansion of the number and cost of staff and administrators, but we are still left with the question of how and why this group of employees continues to expand. To answer this question, the retired Berkeley Physicist examined employment data covering a ten-year period (1997-2007), and he found some remarkable statistics. One thing that Professor Schwartz did was to compare the rate of administrative growth in the UC system to the rate of growth at other universities: "In 2006, in public universities across the country, 49% of the professional full-time employees, excluding the medical school, were faculty members. At UC that percentage was about 25% . . . " According to this study, faculty now make up less than half of the employees at public universities, and in the UC system, faculty represent only 25% of the total number of employees. Moreover, Schwartz shows that the increase in the number and percentage of administrators really took off in the ten years between 1997 an 2007: "in 1997, there were almost 2 faculty to every Executive and Senior Manager; by 2007 the numbers are nearly the same for both groups, while the Middle Manager group steadily grows higher." These statistics show that management is growing at double the rate as the increase in the number of faculty, and so while the UC enrolled more students during this period, it had fewer people to teach the students but more people to manage the teachers and run the business.

In looking at what particular job categories grew the most, Schwartz discovered that computer analysts and budget analysts had the highest rates of growth: "Computer Programming & Analysis - from 2,084 to 4,325 for an increase of 108% and Administrative, Budget/Personnel Analysis from 4,692 to 10,793 for an increase of 130%." It is interesting to note that this growing class of administrators represents people whose primary job is to produce and analyze data for other administrators. In fact, Schwartz argues that one way of explaining why administrators multiply like rabbits is to show how top managers increase their power and control by hiring more people to work under them: "administrators and executives tend to make work for each other, and that because executives prefer to have subordinates rather than rivals, they create and perpetuate bureaucracies in which power is defined by the number of subordinates." The problem then is not only that the number of top administrators continues to grow; rather, administrators increase their power and influence by hiring people to work for them.

Of course, it would be easy to reply that universities have become so complex and diversified that you need an army of bureaucrats to make sure that everyone is following state and federal laws and all books are being balanced. Schwartz's response to this claim is to show that while the total number of employees increased 38% during the 1996-2006 period, the rate of growth of middle management often increased by over 100%; therefore, it is hard to imagine why the university suddenly needed so many more analysts to provide information and data to upper management. Furthermore, the increase in bureaucrats often reduces the knowledge of each employee, while it expands the number of workers who have no connection to instruction. In other terms, the increased expense of administration not only takes money away from the instructional and research budgets, but it also gives power to people who have no connection to education.

Budgets Represent Priorities
Like many other research universities, the University of California spends more than half of its budget on compensation, and that does not even include health benefits or pension contributions. Since so much of the revenue of universities goes into compensation, a good way of understanding how a university functions is to see how it determines pay; furthermore, we can read budgets as a set of implicit priorities, and as my salary analysis above shows, the UC system emphasizes professional schools and administration over instruction. In fact, virtually none of the top three thousand earners in the UC system have anything to do with undergraduate instruction, and so it should be no surprise to anyone if the institution only gives lip services to providing quality undergraduate education.

Ironically, many of the budgetary forces in the university work to drive up tuition costs and lower educational quality, and most of the reasons for this strange combination have to do with compensation. Like the rest of America, universities have moved to a system where profits are privatized and costs are socialized; in this structure, the poor end up subsidizing the wealthy as income gets concentrated at the top. Not only do middle-class students subsidize the financial aid of the wealthiest students, but the lowest paid faculty subsidize the low workload and high pay of the top faculty, coaches, and administrators.

By understanding this budgetary system in higher education, we also begin to understand other institutions in American, like the healthcare system. Just as in the case of higher ed, all of the forces in the healthcare system work to lower quality and raise the cost, and in both cases, the key to changing the system is to rein in the compensation of the people at the top. Of course this type of change is the hardest thing to do because all of the people who make the most money are also the people in control.

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