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How the richest university endowments exacerbate inequality

Some colleges can afford to lavish their students with grants and scholarships but most cannot — which explains why higher-education debt is so unevenly distributed.

The campus at Stanford University, which had an endowment of nearly $38 billion in 2021.Jeff Chiu/Associated Press

Merely 3 percent of the 3,300 nonprofit colleges and universities own 80 percent of the endowed wealth in American higher education. One-fifth of them own nearly 99 percent. This stratification of wealth — the invested capital of endowments — resulted from aggressive financial policies honed by universities and has become closely related to the wealth inequality in the nation. This relationship helps explain skyrocketing undergraduate loan debt, which impairs the social mobility that higher education has historically contributed to democracy.

University leaders began to appreciate the benefits of endowment income in the 1870s. After experiencing the ways that other revenue sources — tuition, grants, gifts, and government subsidies — are “precarious,” as Harvard President Charles W. Eliot observed in 1869, colleges and universities started amassing large amounts of invested capital. Some were more successful than others, and higher education became stratified by wealth.

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Between 1870 and 1920, nine universities with the largest endowments — Chicago, Columbia, Cornell, Harvard, Johns Hopkins, MIT, Princeton, Stanford, and Yale — competed to build the largest endowment. In 1920, Harvard’s endowment attained the lead that it still holds, and it is worth more than $50 billion today. Nearly all the schools in the wealthiest tiers also maintained their positions.

Their advantage starts with unequal fundraising, which is related to the nation’s wealth inequality. Rich schools have more wealthy alumni, who make large gifts and bequests. Today, each additional increment of $100 million in an endowment is associated with an additional $2 million in annual donations. Compounding that factor, wealthy schools spend less to raise each dollar than do less-endowed schools. Furthermore, being less reliant on current gifts, wealthy schools can direct some of their annual gifts into their endowments, increasing their invested capital.

These fundraising factors were enhanced by a revolution in endowment investing, or “portfolio management,” after 1950.

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In the 1950s, the wealthiest schools began investing 60 percent of their endowments in equities. In the 1970s, these institutions started making “total return” investments in riskier “growth” stocks. In the 1990s, they invested in even riskier “alternative assets,” including hedge funds, private equity, and natural resources. Huge returns from these three aggressive tactics vastly widened the wealth stratification, because the great majority of colleges and universities, having little capital, could not afford to take such risks. They lagged behind each stage of the revolution, and many still invested heavily in low-yielding, fixed-income securities in the 21st century.

As far back as the 1920s, scholars also observed that the wealthiest schools had greater access to financial expertise and opportunities because trustees of wealthy schools often know personally the best portfolio managers. And the richest schools can afford to hire those experts, who achieve higher returns but also charge high commissions.

Yet even as the wealthiest schools have embraced aggressive methods of portfolio management, they have continued to follow conservative rules that limit the spending of their annual endowment income to about 5 percent of the total value of the fund. The schools often plow the rest of the income back into their invested capital, which then grows more rapidly.

Finally, if the wealthiest schools stumble, they can issue bonds to cover current obligations until their risky investments recover, as Harvard did in the Great Recession of 2007-09. Less-endowed schools, particularly historically Black colleges and universities, find it harder to issue such bonds, and they pay more in underwriting fees to do so.

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In these respects, the richest schools’ wealth advantage parallels that benefitting the wealthiest Americans. In fact, the richest 1 percent of nonprofit colleges and universities own 54 percent of endowment in higher education today, while the richest 1 percent of American households own 53 percent of all households’ invested capital.

These two parallel kinds of wealth inequality also help explain undergraduates’ loan debt.

Most undergraduates holding large debt come from working- or middle-class households whose income comprises wages or salaries. Over the last four decades, this income has not grown as fast as either the cost of living or the return on invested capital, which is owned predominantly by the wealthiest Americans. These students therefore have ever greater need for financial assistance.

Most undergraduates holding large debts do not attend wealthy colleges and universities that can afford to provide grants and scholarships to assist their students. Rather, they attend less-expensive and less-endowed colleges and universities, whose capacity to meet their students’ growing needs has diminished as their invested capital has slipped further behind the upper tiers of American higher education.

Consequently, undergraduates whose income depends on wages and salaries and who do not attend the schools with the biggest endowments have ever greater need for loans. Inevitably, as the prospect of debt discourages working- and middle-class students from attending college, higher education is much less likely to foster the social mobility that has historically benefitted American society.

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Proposals to address this wealth inequality in higher education have primarily come from Congressional Republicans. The Tax Cuts and Jobs Act of 2017 imposed a 1.4 percent tax on the investment income from endowments worth more than $500,000 per student. New legislation proposed by Senator Rick Scott of Florida would require schools with billion-dollar endowments to spend more of their income. Ironically, such measures to redistribute wealth by imposing taxes or by government fiat are normally repugnant to Republicans and do little to address undergraduates’ debt.

The best, perhaps naive, hope lies in leaders of the richest schools realizing that it is in their own self-interest to end their century-old competition for endowment size — before Congress does it for them.

Bruce A. Kimball, an emeritus professor in the Department of Educational Studies at The Ohio State University, and Sarah M. Iler, assistant director of Institutional Research at the University of North Carolina School of the Arts, are authors of the forthcoming book “Wealth, Cost, and Price in American Higher Education: A Brief History.”