As spring approaches, this is the time when deans and vice presidents of higher education across the country begin their annual budget exercise. Given the rosy economic picture painted by improving wages, job reports and corporate profits, it wouldn’t be out of place to start dreaming of expanding your own little circles and proposing bigger budgets and more hiring for your respective units, which Warren Buffett has. called the institutional imperative. My warning: Beware!
As an academic, I have often heard high-ranking officials make the case for how public universities should be run using a business model. The president of my own university is a strong supporter of the idea. The problem is that universities face challenges that most companies do not. For example, suppose the demand for your company’s product decreases. To keep your company viable and accountable to shareholders, you will cut production. Fewer sales means fewer staff will be needed, leading to labor reductions. Despite the lower income, the final result remains stable by reducing material and personnel expenses.
Let’s see what happens in a university. Suppose that the demand for your product, classes, decreases, that is, fewer students enroll. The cost of materials to run a class is minimal compared to the costs of personnel and physical plant. You can’t close buildings, so your only recourse is downsizing. Here’s a problem that corporations don’t have. They never have a case where the few remaining customers demand that the company produce as much product as before the reduction in demand. But if you have a class of 40 reduced to 30 or even 20 students the university cannot cancel it. These students registered for the class well in advance, even before the semester began. Their schedules and even graduation are based on it. If the class doesn’t, the students will be in an uproar, and in this day and age they have no problem letting the world know about it: online. As the news goes viral, the university will gain a bad reputation. It will affect future registrations. Any whisper of lower enrollment sends chills down the top admins.
Here’s another difference between corporations and higher education providers. Corporate hires are more fungible. If you let someone go, all you need is several weeks’ notice. Not so for the academy. You can fire staff that way, but the instructors have an academic year contract. University administrators may decide not to renew a non-tenured professor’s contract after the academic year, but may not terminate it during the academic year. That means hiring and budget decisions need to be made well in advance.
In 2007 I was in the middle of this dilemma. I was the founder and chair of the Idaho State University Budget Committee. Our mandate, as I saw it, was to keep abreast of economic developments so that we could better advise administrators on the “disruptions” that lead to reductions in state allocations for higher education. Once they happen, we would provide advice on budget allocations to programs and contracting. Academic hires must be made months in advance, so timely information meant looking ahead at least six months. It was within that time period that I warned our senior management of the coming economic slowdown and real estate problems at the epicenter of the financial crisis. That message went unheeded at the time, so for the next two years our committee had to help management manage ever-shrinking budgets.
The unemployment rate at the time of my warning in 2007 was 4.4%, wages rose 0.3% per month and 4.4% per year, and S&P 500 earnings rose 16% per year. GDP growth was set at 3%. Sounds familiar? There were many reasons to be optimistic, and yet the future did not play out that way. The same will happen this year, although the main factors behind the economic stagnation will be different.
There is a financial storm brewing. This time, the low pressure front will be driven by demographic forces that will result in decreased spending by the 46-50 age group, a group known as top spenders. There will be a prolonged and marked decline in consumer spending leading to a prolonged economic downturn starting this year and lasting until 2023.
The state’s general bills will decline as sales tax revenues fall and an increase in unemployment leads to lower personal tax revenues. These are the two main pillars that fill the state coffers. The other two are real estate and corporate taxes. While property tax revenue will remain flat, corporate tax revenue will reflect falling corporate profits. The end result is that state support for public universities will be cut, and once again these institutions will have the difficult task of managing their budgets by cutting staff. This is not, therefore, a time to dream of expanding departments, but a time to plan for downsizing.
Administrators must avoid the temptation to pass on the responsibility and use university reserves to meet the immediate challenge. Next year will not be better. In fact, this downhill process will continue to get worse, and as I mentioned above, it will last until 2023. University officials are going to be forced to face the music at some point, so they might as well brainstorm and come up with a 5 – o 6-year plan to deal with discomfort.
The warning is doubled for those who invest in the stock market. The same forces at work within state finances will also cripple our economy and wreak havoc on corporate profits and prices. Stock portfolios will take a substantial hit. My advice is to pay attention to the current stock market warning. We just went through a correction, but these are just the birth pains of the coming financial storm. The wise will use any rally as an opportunity to reduce stock holdings. There will be many who will make fun of me now, but when the worst part of the storm hits you will want to be completely out of the stock market.