Executive Summary
The Outlook for State Finances
Prospects for Funding Higher Education
Fiscal Impacts on Higher Education Policy
Increasing Spending Outside of Higher Education
Cutting Spending Outside of Higher Education
Raising Taxes
Sensitivity Analyses
Participants, Symposium on Emerging State Policy Issues
About the Author
About the National Center

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State Spending for Higher Education
Page 6 of 14

Chapter Three: Fiscal Impacts on Higher Education


The preceding two chapters deal entirely with purely fiscal decisions of state elected officials. These are decisions from the world of state budget offices and governors, legislative fiscal staffs and legislators, and voters occasionally acting directly on tax and spending measures by initiative and referendum. These decision-makers are treated as though they dealt only with relatively pure fiscal decisions, including:

  • The level of taxes and thus spending,

  • The allocation of spending among higher education and other major functions, and

  • The mechanisms for adjusting spending to unexpected changes in fiscal circumstances.

The major players in these decisions are chairs of appropriating committees, House speakers and Senate presidents, governors, budget directors, legislative fiscal officers, and those interest groups with major effects on overall spending and tax policies. They do not normally have any closer association with higher education than with health care, elementary and secondary education, or other functions.

Of course, fiscal decisions themselves are policy decisions. Furthermore, decisions about budget levels often push detailed policy decisions in particular directions. For example, new programs are more likely to be established in higher education institutions when appropriations exceed costs of maintaining current services. But in the purest view of budgeting, the central fiscal authorities do not:

  • Determine how the spending totals they set will be allocated within a function, such as by determining divisions between community and institutional mental health, formulas for allocating school aid among school districts, and allocations of higher education funds among levels of instruction, individual institutions, or between scholarships and institutional support.

  • Establish policies affecting individual functions except as government-wide policies applicable to all functions, such as civil service pay schedules, contributions to employee retirement plans, and charges levied by central service units such as state computer utilities.

These limited roles of central fiscal authorities are reflected in the normal assignments of responsibilities in executive branches and legislatures. Within the executive branch, state budget offices play the fiscal role, while departments and independent agencies administer functions and are expected to have dominant influence over questions of policy -- so long as they operate within fiscal constraints. In the legislatures, appropriating committees have jurisdiction over budgets. But substantive legislation dealing with policies is assigned to other committees such as those dealing with education and health care.


As a practical matter, the divisions between central fiscal authorities and those setting policy for individual state functions is never clear and always controversial.

Ambiguity in roles is inherent in the work of elected officials because their responsibilities include both policies within individual governmental functions and central fiscal decisions. They are under no major pressure to separate their roles and often do not do so; therefore, governors frequently use the process for the development of budgets as their primary mechanism for reviewing and making decisions on major policy initiatives. Many legislatures include substantive legislation in their budget bills. It is quite common for legislators and governors to hold many major decisions of a legislative session for final determination as part of grand compromises that include tax policy, the budget, issues with fiscal impacts such as employee pay raises, money issues within functions such as allocation of school aid among school districts, and issues unrelated to money such as those associated with regulatory policy.

Many state budget staffs, both legislative and executive, and legislators serving on appropriating committees see themselves as having more responsibility for policy than the theory summarized above suggests they should have. They feel responsibility for decisions embodied in "their" products, such as their executive budget and their appropriations bills. Some believe that they cannot separate decisions on how much to spend on particular functions from decisions on how it will be spent. For example, they may support additional spending if used for Activity A but not for Activity B. In that situation, to achieve their objectives, they must control sub-allocations of appropriations when Activities A and B are within the same function -- as when, for example, both involve higher education spending. Moreover, those in central positions may choose to exercise power simply because they believe they know the right policies and are in a position to use their fiscal power to ensure implementation of the policies they like.

Rightly or wrongly, central fiscal decision-makers have more impact on policy than theory might suggest they should have. That impact varies from state to state and from year to year based on many different factors, including institutional traditions, statutory frameworks, the impact of dominating personalities, and the preferences of current governors and legislative leaders.


Random Impacts
Some impacts of fiscal decision-makers on higher education policy are nearly random. For example, a powerful appropriations committee chairperson may use his or her position of power to favor appropriations for a particular higher education institution in his or her district. Or the position of power may lead to larger appropriations for some activity, such as medical education, and lesser ones for others. A powerful budget analyst in an executive or legislative position may influence a variety of policies of interest to him or her, but random events may lead to someone else holding such a position with less or more power to implement policy preferences. This paper has nothing to contribute to the understanding of such situations.

Systematic Perspectives
On some subjects, the impacts of those who draw power from state fiscal processes is not random. It stems from one of two factors, or both:

  1. There is a substantial rationale for involvement of central fiscal perspectives in the decision.

  2. Central fiscal decision-makers bring a unique perspective to the policy under consideration.

There are many examples where there is a substantial rationale for involvement of central fiscal decision-makers in higher education policy. Each one is controversial, but these are some common ones:

  • Policies involving collecting money from the public (e.g., tuition), particularly if state rules allow the collecting agency to supplement spending through using the resulting revenues.

  • Policies involving duplication of functions or potential duplication of missions of other agencies, such as providing remedial instruction in higher education.

  • Policies with rationales outside of the budgeted function, such as justification of higher education spending based on perceived economic development benefits.

The unique perspectives of those in central fiscal decision-making involve such topics as government-wide approaches to performance measurement and attitudes toward contracting out government functions.

The discussion of individual policies in higher education that constitutes the remainder of this chapter examines the unique policy perspectives commonly found among those dealing primarily with fiscal matters affecting multiple state agencies. The aim is to explain the various perspectives and their impacts on higher education, not to predict the extent to which the perspectives are likely to be implemented.


In economic terms, there is little difference between supporting an activity through direct grants, which count as state spending, and tax concessions, which count as reductions in revenues. This point is so widely understood that the federal government and some states prepare annual reports on tax expenditures. Like outlays, tax expenditures involve allocation of scarce state resources. The amounts and purposes can be calculated by treating the revenue reductions as though they were outlays.

Paying some of the costs of attending higher educational institutions provides an example. Suppose, for example, the intent is to employ additional state resources of $600 per full-time pupil in higher education. One approach would be to give the $600 to the institution providing the education. This would count as an outlay, taking the form of an appropriation to the institution. Another approach would be to allow the subsidy to follow the student by awarding $600 to each eligible student in the form of a voucher or its equivalent, a scholarship which could only be used as partial payment of tuition. This would also count as an outlay, but the appropriation would be to a state scholarship commission. Another approach would be to award the student or person paying the tuition a tax credit of $600. This would not be an outlay, but instead would be a reduction in revenue.

Choices between expenditures and tax expenditures are only theoretically unrelated to other policy choices. As a practical matter, whether the decision is made in a tax context or a spending context also influences other important policies. For example, it is relatively easy to defend distributing institutional subsidies only to public institutions. It is much harder to defend confining tuition tax credits only to those attending public institutions.

Central state decision-makers have recently shown a strong bias toward using tax expenditures rather than spending. For reasons described in Appendix C, many decision-makers wish to make records of reducing taxes. This alone could account for the recent popularity of using tax expenditures in higher education, both at the federal level and in some states.

The impact of both federal and state fiscal conditions on this bias is probably not well understood. When a government is collecting more money than is required to maintain current services, the excess is available for either tax reduction or increased spending. In this situation, but only in this situation, tax expenditures appear to perform double service in public perceptions. On the one hand, they are a reduction in taxes. On the other, they represent added support for the function for which they are provided.

However, when a government is unable or barely able to cover current service spending with current revenues, there are no extra resources available either for added spending or for tax reductions. In such a context, the use of resources for either a tax expenditure or a regular expenditure will require difficult decisions to increase taxes or cut spending in existing programs. No double duty can be performed by a tax expenditure because any tax cut will have to be accompanied by an equal and offsetting tax increase.

In such a context, a different principle of central fiscal authorities applies. Public opinion surveys and the experience of state elected officials suggests that revenue-neutral tax changes are perceived as tax increases. The public clearly sees, and journalists widely publicize, the portion of the revenue-neutral changes that increases revenue. The corresponding reductions are often less clearly perceived and, when perceived, tend to be viewed as promises of politicians to cut taxes that may not be fulfilled.

It follows that the recent emphasis on tax expenditures for higher education may be temporary.


Over the past several decades fiscal decision-makers have become increasingly convinced that it is better to provide government support of consumption of any good or service by allocating subsidies to consumers rather than to providers. This approach substitutes decisions by consumers for decisions by government on such topics as which providers prosper and grow, which suffer, and which are eliminated. Adoption of the approach causes massive changes in any field affected by it. Fields most recently affected include the provision of acute medical care (a function most hospitals perform), mental health, and housing.

The impact can most recently be seen in the dramatic changes that have taken place in the operations and ownership of what formerly were public hospitals. There is a potential direct parallel to public higher educational institutions. The response of governments in the United States to people who needed hospital care but could not pay for it was the creation of public hospitals. These hospitals, which included some of the best-known and respected medical facilities in the nation, were typically funded and maintained by local governments, primarily counties.

The major changes in health care are primarily associated with the institution of the Medicaid program, which, in effect, provides open-ended vouchers to those eligible in the form of a Medicaid card which works roughly like a health insurance card. Parallel changes occurred in other government programs such as the provision of health care for veterans and for some members of the armed forces and their dependents. Private (mostly not-for-profit) hospitals were often preferred by these subsidized patients by reason of location, perceived better services, and other reasons. In the many cases where government payments equaled or exceeded costs of treatment, private hospitals aggressively marketed themselves to charity patients. As a result, capacity utilization in public hospitals dropped, costs per patient increased, and for a variety of reasons, the public hospitals were slow to adopt cost-saving measures being adopted in the private sector. Faced with the resulting financial pressures, state and local governments have largely eliminated their public hospitals -- closing some, merging others with private institutions, and disposing of others to profit-seeking or not-for-profit corporations.

These results have their critics, but have generally pleased elected officials and their fiscal staffs. Competition is believed to hold costs to below what they would otherwise be. The changes have reduced public employment. Almost by definition, consumers are satisfied as they are experiencing the consequences of their own choices.

Advocates of subsidizing consumers rather than producers are now most publicly apparent in the voucher movement (and pressures for tax credit equivalents of vouchers) in elementary and secondary education. The voucher proposals draw huge controversies, primarily because public education employees perceive the changes as threatening their jobs, a threat those employees have recognized better than their counterparts in public hospitals.

Subsidizing consumers rather than producers in higher education has produced much less visible controversies. However, policy shifts have been substantial, and they can be seen in the details of some programs -- such as in shifts of support for teaching in university medical schools. They appear dramatically in the recent adoptions of education saving accounts, tax deductions for tuition, tax credits for tuition, and state-run college savings plans. Most of these programs do not distinguish between private and public institutions as providers of higher education services.

State central decision-makers are moving consistently in many fields toward more support of consumers and less support of providers. The concepts are reflected in the use of tax expenditures rather than outlays for functions such as childcare, care for the elderly, higher education, elementary and secondary education, and job training. They are reflected in changes in financing mental health and daycare services. They are reflected in education plans that seek to increase student choice in attending charter schools or schools outside the district of residence.

To the extent that central decision-makers successfully bring these perspectives to higher education, the results will be a greater emphasis on tax expenditures, a greater emphasis on scholarships, less emphasis on institutional support, and broader participation by private institutions in public support of education of state residents.

How far could such an approach evolve? In higher education, it could evolve to match systems now in existence for other functions, systems in which governments merely buy "slots" that eligible participants use, thereby providing these participants with choice among providers, so long as space is available. Section 8 housing subsidies work this way. Most daycare programs work this way. School voucher plans work this way. Much of job training works this way. So does provision of Medicaid-reimbursed nursing home care.


Government typically provides its services at no cost to the consumer or with charges that are highly subsidized with tax revenues. As a result, there is little limit to potential consumer demand and thus to government costs. Meeting all of the resulting demand is impossible, so governments find ways to limit consumption of what they produce.9

A common mechanism for limiting consumption is to declare only a portion of possible consumers as eligible for the service by some test, such as through the low-income tests required for eligibility for government-paid health care, nursing home services, and housing. But long traditions and public policy arguments suggest that many public services must be offered to all. Examples are services of the police, libraries, public parks, museums, public schools, and public higher educational institutions. Although no one likes to talk about the resulting rationing as a matter of policy, public services in these situations normally do not meet the highest standards of quality in their industry. This drives the portion of demand associated with more affluent and/or highly motivated users into private sector providers.

The results are apparent in many fields. Those seeking the highest levels of security services buy alarm systems and hire private guards. Those seeking the best mental health care see private psychiatrists even though supposedly comparable services are available at public expense. Most parents pay private doctors to vaccinate children, even though vaccination is offered as a public health service. Affluent families go to private theme parks while less affluent ones use public parks. Many people seeking their definition of "the best" for their children send them to private schools and universities.

In general, while aspiring to the best, governments provide most services based on views of meeting minimum standards. In this context, widespread support for using tax dollars to bring some state universities to standards of elite private institutions remains an anomaly of public policy that has not escaped the notice of some central decision-makers.


Many of the staff members populating central fiscal agencies are trained in economic doctrines that place much more value on user charges for public services than the providers and users of the particular services consider appropriate.

In extreme cases -- where benefits of government services accrue almost exclusively to the users of the service -- this philosophy suggests either that government should not provide the service at all or, if circumstances dictate that it must, the users be charged the full cost of providing services. This approach has much to do with why state governments, despite federal urging, have never participated with their own tax dollars in subsidized housing, why costs of fish and game programs are covered by license fees, why gas taxes and other user fees cover most highway costs, and why heavy fees are charged for applications for state and local permits to conduct various activities.

This orientation to user charges helps explain why there is often more interest in financing portions of higher education outlays with tuition among budget staffs than among students and higher education professionals.


Statewide elected officials, such as governors, are elected by systems in which a vote anywhere counts as much as a vote anywhere else. Legislators are elected in smaller geographic constituencies but must reach decisions by majorities of representatives of such constituencies. Both systems give elected officials strong reasons to never appear to be anything but even-handed in dealing with different geographic areas within a state.

The resulting pressures in allocation of support among public higher educational institutions is well known. These pressures inherently make it difficult to single out particular institutions, and thus particular places, as unique centers of excellence. Instead, all of the pressures lead to one of two policies. One option is access for nearly all high school graduates to excellent state institutions. This policy leads to the conclusion that such institutions should exist in every population center. The other option is concepts of tiers of excellence, with use of the excellent institutions restricted on some basis other than geography such as the stiff admissions requirements used by the University of California.


The basic philosophy of budgeting suggests that appropriations should be budgeted to agencies primarily responsible for identifiable missions. This is a bureaucratic version of the concept of subsidizing consumers rather than providers. It is reflected in practices such as budgeting training of employees in the agency with the employees, rather than in appropriations for particular training providers, such as state universities. The philosophy is incompletely implemented even in this simple case and is even less completely implemented in other more fiscally significant cases.

The best current example is the interaction of economic development and higher education objectives. States are pursing economic development competitively and at great expense. Bidding wars have established the going price of luring one new manufacturing job as a one-time outlay (in tax benefits, cash subsidies, free land, provision of public services such as road connections, and more) in the range of $15,000 to as much as $300,000. With this kind of money at stake, state officials concerned with economic development are willing to exert great pressures on higher education administrators to be responsive to real or imagined concerns of business leaders contemplating expansion or new locations. These business leaders are looking for a higher education presence in the fields that interest them and in close proximity to where they are considering locating facilities. Those locations are often not the ones that would be selected on the basis of higher education criteria alone.

Purity in budgeting spending by higher education institutions to achieve economic development objectives will never be achieved. Economic development professionals will always have an interest in minimizing their apparent costs by ensuring that they appear outside their budgets and in such forms as budgets for higher education and reductions in tax collections. Administrators in higher education (and other fields) will always be motivated to claim benefits from their spending in contributing to state objectives outside educating students, of which economic development is an example.

But at least in the theory of budgeting (as imperfectly pursued by central fiscal staffs), those portions of demands on higher education rationalized by state objectives outside of higher education should be budgeted separately.


The likely impacts of the central fiscal perspectives considered in this chapter are much more difficult to forecast than the likely impacts of state fiscal conditions on state spending for higher education. About all that can be said with certainty is that the constant tensions between perspectives of central fiscal decision-makers and managers of state programs, including higher education, seem likely to continue at about the same levels as in the past.



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