Universities and the back-to-front world of the bubble in education.
How did debt, pensions and financing become the main preoccupation of institutions founded for the propagation of learning and knowledge?
Recently, universities have been in the news for all the wrong reasons. In the US, concerns about campus extremism have grabbed the headlines. In the UK, the last few years have been characterised by academics striking over pension contributions, and a more general problem of university funding in an era of rising inflation and interest rates.
Given worries over falling academic standards, The Financial Times ran a front page story on how the University of York (founded 1963) has indicated in an internal memo that overseas students might only be required to get B/B/C or equivalent A-Level grades for undergraduate entry or a 2:2 for postgraduate work1.
The FT notes that the equivalent A-Level grades required for prospective domestic students at York in certain courses is A/A/A. This is a huge gap. The difference of course is that foreign students pay far more than domestic ones. So is it now all just about the money?
The expansion of UK higher education, with many former polytechnics being rebranded as universities, began during the latter days of the Major administration. But it was in 1999, under Prime Minister Tony Blair, that the process became supercharged, with Labour policy ultimately targeting university attendance levels of 50% of every age cohort.
Reflecting this, university tuition charges of £1,000 in England were introduced in 1998. By 2017, these had risen to £9,250, where they have remained fixed despite the recent burst of inflation. ONS data shows the CPI index at 103.4 in 2017, but at 121.7 at the end of 2022. With current data up until November 2023 showing annual UK inflation last year at 3.9%, this means that the real value of tuition fees will have fallen over 20% since 2017, hence the funding problems at universities.
Universities have always been keen on higher-paying foreign students, but the pressure is clearly rising. For York, 2022 saw 44% of their fee income coming from foreign students, despite this group comprising just 28% of the student body2. Good business, but at what reputational cost?
A cursory glance at the University of York’s financial statements presents a fairly sanguine picture. It has £194mm of cash on the balance sheet; the debt-to-equity ratio is only 1.35x; interest payments are just £9.1mm for year ending 2022; the acid-test ratio is a healthy 1.78x3.
The big negative ‘swing’ number is the University’s share of the USS (University Superannuation Scheme) pension deficit of £98.6mm, which is in part offset in the comprehensive income by an actuarial gain on pension-fund assets (presumably due to a higher discount rate as interest rates have risen)4.
Like many institutions, both charitable and for-profit, the end of the era of falling inflation and low rates is starting to hurt. But the real problem for the university sector seems to be one of supply and demand.
In his recent book ‘You Always Hurt the One You Love’, economist Bernard Connolly expounds the theory of ‘intertemporal disequilibrium’ as the key driver for monetary policy. Supply and demand factors in the present exist alongside likely supply and demand changes in the future, and rather than inflation targeting, Connolly suggests central bank monetary policy ought to balance these factors, however difficult or unpopular the task may seem5.
A similar idea can be applied to the UK universities. A huge increase in demand for university places due to government policy saw massive investment in resources by the university sector, but the corresponding falling value of a degree (too many graduates chasing too few good jobs), in part caused by and in part resulting from grade inflation, has left the sector over-invested and financially over-stretched. Industrial disputes, lower entry standards, higher drop-out rates and ‘financial challenges’ (as highlighted in the FT article mentioned above) are the product. You could describe it as a bubble in higher education, and it feels like it’s beginning to burst.
In terms of monetary policy and the markets, Connolly shows there is a stark choice once an interest-rate policy mistake has been made and bubbles have emerged in parts of the economy; either you keep the bubble going by massive central bank or fiscal intervention, or you get a liquidation event that could end up in a depression of the sort the US witnessed in the 1930s6.
The same logic can be applied to higher education. The failure of a university or a number of universities in the UK would be a political catastrophe, especially given the high value still imputed to getting a degree despite the rapid rise in the number of graduates in the last few decades, and the apparent drift in academic standards that has accompanied it.
While universities seem to be chasing high-paying foreign students at almost any cost to academic standards, one always gets the sense that when push comes to shove, the government will ultimately have to step in to bail out and stabilise the situation should the financial distress in the sector become too onerous.
The hazy and theoretical government ‘guarantees’ behind the mortgage giants Fannie Mae and Freddie Mac in the US had to be made all too real during the 2008 financial crisis. Likewise, one would expect a similar socialisation of risk if an august seat of learning in the UK really got into financial trouble.
While university vice-chancellors like to play at running businesses, it’s clear they do so in full knowledge that there is a government ‘put’ behind them. To some extent they are justified, especially given the government sets the level of tuition fees in England, and this is the main source of university income. Still, it’s nice work if you can get it.
Lucy Fisher, Peter Foster, Anna Gross. University of York lowers bar for overseas students after ‘financial challenges’, Financial Times, 11/02/2024.
University of York, Annual Report and Financial Statement, 2022, p16.
Ibid, pp50-1.
Ibid, p49.
Bernard Connolly, You Always Hurt the One You Love, Central Banks and the Murder of Capitalism, Unicorn Publishing Group, 2023, p153.
Ibid, p156.