Provost discusses how economic downturn could affect university

John Etchemendy

John Etchemendy

Financial uncertainty has affected every sector of the national and international economy—including higher education. In the following interview, Provost John Etchemendy talks about the impact of the economic downturn on the university's fiscal outlook and budget planning.

How would you summarize the university's budget circumstances?

Everyone knows that the investment climate has been extremely difficult, and it will continue to be difficult. Every investment sector has been affected and it is not clear when the market will turn positive again. The university's investment income—from the endowment but also from other reserves—is one of our largest revenue sources. That source is going to be significantly reduced for the coming budget year. At the same time, sponsored research revenue has been declining in real terms over the last three years. The third major source of income, which is student revenue, including tuition, room and board, cannot be raised significantly out of fairness to our students' families. On the contrary, financial aid costs will be higher because, as the economy hits the pocketbooks of our students' families, many will require more financial aid. All these factors come together for a tighter financial outlook for the foreseeable future, perhaps the tightest we have faced in more than 15 years.

Let me say something about the scale of the problem, focusing on the general funds budget. That is the budget that pays for most faculty and staff salaries, central administrative operations and the non-research expenses in the schools. The general funds budget is about $800 million of the overall budget of the university. We are currently projecting that we will have to cut about $45 million from that $800 million base in fiscal year 2009-10. On average, that comes out to about a 5 percent reduction. But we also anticipate that we will need to make further reductions of a similar size the following year, so we can't approach this as one-time belt tightening. As the budget outlook develops through the coming months we will certainly provide updates to the campus community.

What are the guiding principles for making those cuts?

We must make adjustments in such a way that we do not damage the core functions of the university or the remarkable momentum we have achieved in the last decade. I think we can do that. In fact, I am confident of it. In general, universities are relatively stable institutions and can usually avoid layoffs of the scale we see in private companies. Stanford is in a strong financial position among universities—one of the strongest. The weak economy is going to hit every university and every company. I can't think of a place I would rather be than Stanford.

So, first of all, we do not intend to impose across-the-board layoffs or across-the-board salary freezes. We want to protect as many jobs as possible. That said, since the majority of university expenses are for people, we have to recognize that some jobs will be lost in any substantial cut. Second, we will do our best to have a salary program that keeps up with inflation, although it will certainly be smaller than in recent years. The smaller salary raises will minimize the need for job cuts.

In addition to a more modest salary program, we will ask all the schools and administrative units to propose three budget reduction scenarios: 3 percent, 5 percent and 7 percent. Those proposals, which will be presented to the University Budget Group, will result in allocated cuts to the units. These may or may not be the same for each unit, depending on which reductions have the least impact on the core mission of the university.

It is helpful to remember that over the last several years, the budget of the university has seen remarkable growth because of the very strong investment returns we have had. In the last four years, the university's revenues have grown over 40 percent. I know that we can pull back some of that increase without damaging the university and without significantly impacting our core functions. In a period of rapid revenue growth, we tend to grow without thinking about what else we might forgo. I think that a period of retrenchment can be healthy if approached in the right way.

Do you see this as a multi-year budget reduction cycle?

Yes. The university's endowment payout policy employs a smoothing formula that dampens and buffers the effect of sharp volatility in investment returns. But it buffers it, in effect, by postponing budget reductions and spreading them out over several years.

It is very hard to project further than the next two years, given that so much of our revenue depends on investments. Many people think we are at the beginning of a multi-year downturn. Others hope we will recover more quickly, as we did when the dot-com bubble burst in 2001 and 2002. But this is unlikely, since the current economic uncertainty is much more widespread. The dot-com decline involved a much smaller piece of the economy, one that affected us locally and disproportionately. What we are seeing now, however, involves the entire U.S. economy and, indeed, the world economy.

There are many indirect effects of such a broad economic downturn: Financial aid goes up and philanthropy goes down. Another indirect effect is that the country will very likely not be able to afford the science investments that it should make. Every source of university revenue is affected.

Do you see a slowdown in planned capital improvements?

Yes. Obviously, we have a very large capital plan—one of the largest in university history. It is driven in part by the need to replace and upgrade many of our aging science and engineering facilities. But we also need to create, for instance, a new facility for the art department and a new campus for the Graduate School of Business. Those projects currently under way will go forward.

Will all the projects in the capital plan be built at the speed we had originally hoped? No. We plan to delay some of them, whether by six months, one year or two years, depending on the project. Those delays are helpful in that they not only defer construction outlays, they also postpone debt service, utilities, operations and maintenance, and so forth. We have also told all of the deans that we do not intend to add any new projects to the capital plan at this time.

Will there be any reduction in financial aid commitments?

No, in fact, exactly the opposite. When things tighten in the economy, our financial aid bill goes up because we guarantee enough financial aid for admitted domestic students to allow them to attend Stanford. If a student's family financial situation deteriorates, we fill in the difference. We will absolutely keep our commitment to provide that aid. The brightest students should be able to continue to attend Stanford regardless of their ability to pay. Future generations also deserve that same access to a Stanford education.

How should the campus community prepare for what is ahead?

I would like to ask everyone to look at what they currently do, at their expenditures and at their discretionary spending. They should be asking themselves: Are there things we can do without or purchases we can delay? Are there functions we can do in a less costly way? Can we be more strategic in our use of resources? We should all look for savings in the current year. Anything saved in the current year will put your department or school in a better position going into fiscal year '10 and require fewer cuts going forward. I would ask the whole community to adopt a more frugal mindset.

It can be very healthy for the institution to rethink whether some of our growth can be funded through a reduction in old ventures. We intend to make this a healthy, strategic process as opposed to a thoughtless, across-the-board reduction. We can maintain our momentum, particularly as measured against the background of the entire field of higher education. Stanford continues to be in a very enviable position, and that will remain the case because other institutions face exactly the same forces.