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INSTITUTION

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ABSTRACTNew approaches to allocating state resources to

'colleges are discussed: Budgeting. and resource allocation principlesare considered that: (1) reflect the unique context'of highereducation; (2) are consistent with sound budgeting and managementprinciples; and (3) represent institutional mechanisms applied-at thestate level rather than approaches-developed expressly to reflectstate priorities. to form the basis for a set of first principles forstate-level resouxdb allocation,,the following concepts areaddressed: the link between budgeting, planning, and eccoumtabilitv,governance relationships; production functions in hj.gher educatios;and key structural components of the budget. The following customaryapproaches to resource allocation are evaluated in light of theseprinciples and guidelines: incremental budgeting, formula budgeting,base-plup-increment approaches, and categorical or competitiveapproaches.eThe changing environment affecting resource allocatioband actual and potential responses to the.problems involved.are alsoconsidered, including buffering and decoupling, marginal costing, andusing flied and variable costs. Finally, key recommendations aresummarized, and areas where reform of resource' allocation may' fartherthe aims' of schools and state government 'are identified. (SW)

DOCUMENT RESU14Er

Jones, Dennis P.

HE 018 331

Higher-Education Budgeting at the State Level:Concepts and Principles.National Center for Higher Education ManagementSystems, Boulder, Colo.National Inst. of Education (ED), Washington, DC.

400-83-0009120p.NatioRelCenter for Higher Education ManagementSystemi, P.O. Drawer P, Boulder, CO 80302 ($8.00).Viewpdints (120)

MF01/PC05 Plus Postage.Accountability; *Budigetingi College Planning;Economic Climate; *Financial Policy; Governance;*Government School Relationship; *Hither Education;*Resource Allocation; *State Aid

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from the original decument.***********aW**********************************************************

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INFORMATION CENTER (ERIC)."

010,ANTINENT ay lawmanNA AL INSInian Of tOtiCA

EOUC tONAL RESOURCES MIFORASIVOtiCENTER (ERIC!

ho document has rbotro ssproCksosst ssreceived hom rhe mown w orgonizstionorsosorog ttWhom changes have boon mode to Improvereproduction wetly

PIntlel vtew or %morons stated at Mrs dew,moor do not nctosney tooresont othcolorsairoo of poiacp

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National Center-for Higher Education Management SystemsPost Office Drawer P, Boulder,-Colorado 80302An Affirmative Action/Equal Opportunity Employer

_The mission of the National Center for Higher Education Mamigement SystemsiNCHEMS) is to carry out reseaki development, dissemination, and evaluatidnactivities and to serve As a national resource to assist. individuals, institutions,agenc;es and organizations Of Postseeondarreducation, and state and 'federal'goveriments in bringing about improvements in plarixiIng and Management inpostsecondary education.

BOARD OF DIRECTORS

(.1totrtrtonRiched, L.-van HourUniversity of klinston-LT niversity Park

Arthur G. AndersonIBM Corporation

Richard K. GreenfieldSt Louis CommunityCollege District.

Kermit HansenFinancial PerspectivesCompany

David F. johns4nNatignal Institutes of Heahh

*jt)e E. LeeSK ht an Miloagencn tinto 1porateti

Ben Lawrence'President

Otairman-ElectSherry H. PenneySUNY-Central Administration

Kenneth P. MortimerThe Pennsylvat* StateUniversity,,,

Chahners Gail NorrisUtah Slate Board of Regents

James I. Spainhower.Lindenwood College

Joyce TsunodaUniversity of Hawaii

Hon. Gordon 0. VossMinnesota Slate Representative

Marvin WorkmanTemple University

OFFICERS

Sherrill CloudI

Vice President forAdministration and Finance

William Tet lowDirector,

Management Products Division

KAI. WatsonPioneer Corporation,Retired

EX-OFFICIO MEMBERS

Elaine El-KhawasChairNational Advisory CouncilAmerican Council onEducation

Charles M. ChambersChairman:ElectNational Advisory CouncilAmerican Association ofuniversity Administrators

Dennis- pilesvice President for .

Planning

Ellen ChaffeeDirector,

Organizational Studies Division

BUT COPY AVAILABLE

to

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Higher-Education Budget*At the State Level

Ccinceptd arid Piinciples

Dennis P. Jones

1984

Nstkmal Center for Higher E4peation Mangwanegt SystemsPAX Drawer P ". Bouldeis Coles-ado 80302-

Aflimk;tivo Action/Equal 04;portraty &cloy,

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"

The work upon which this bliostion is based was performedpursuant to Contract No. of the National Institute of.Bducation. It does not, hovever, necessailly reflect the views of

ThataSencY

This publication was not printed at the expense federal

government

National Center for Higher BatucationMansiement System'sBoulder, Colorado 803C0 .

the United States of AmericaDesigned by Lynn B. fl4lips '

r

Thble of Confents

Acknowledgments

avoter 1The Future of State Funding

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,Cha2tw.. 2Ile Budget in Concept and Context 11

Chapter 3Customary Approaches to Resourc Allocati 41

Chapter 4Budgeting in the 1980s: Responding toNew Realities

I Chapter 5Budgeting and Educational Policy:Conclusions and Recommendations 91

Appendix 97

References 111

1. Short,Circulting the Budgeirrocess . '" 19

Z. Govettumelatkurships . 26

3. Iurs of " *the Process 314

Budgetary CoinponentiV

5. Custmnary Approaches to &WWI*AllOattkin 42

6. Average versus Marginal its *1 53

7. State Allocations Linked to a MulliyearAverage of Enrollments

8. "trading CeilinpDuring-Perkxls of--Enrollmant Growth

9. Minnesota's Enrollment Buip Policy ........,..

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W.-Marginal-Cost Curve Over. a Wide Rangeof Enrollments 79

11. Fixed and Variable Costs 4, # I a. 81

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1. A Menu of Menial State ObjectivesRegarding Higher Education . . OOOOOOO 20

2. The Infhience of Governance RelationtiiipsFinancing, Bthigeting, Accountskbility,

3. Summary of Budget Formula.for HigherEducation, State of Kentucky, 1983

4. ynrifirsity of Wisconsin Systems, Fixed-CostAnalysis, Instruction; Base Year-19780.. 164\

5. Marginal-Cost Factorb

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cknow nts

In developing this document I benefited from the Ideas dadassistance of frienas, and colleagues around the country.: Toeach of them I qwe a particular debt of gratitude. Rich Om-provided 'the, impetus, for the effort and offered manyvaluable comments alms the way. Paul Brh3kman's nearbyoffice made him a victim of my frequent need to discussideas, both conceptual and technical. His unfailing goodiraaq allowed me to benefit from 1;oth I" and his

Bill Pickens contributed his . his experi- .

ence, ; 'copies of- many pertinent papers "" his file's.John Folgt`ff found time at numerous = 4,1 tolisten to.my ideas] offered his own unique blend of academicand real-world perspectives,. and subsequently reviewed thenumerous drafts. through which this document passed.Brenda Albright,' Gail Norris, Bill Fulle4 and Mice Mullenprovided encouraOmei%t wilt as substanthe commentsduring this period, With skill, craftimanship, and patience,Rolf Norgaard transformed the draft into a final product. I,Paula Dressler typed the domain* over and over aiptin withgood humor and style. Clara Roberts otersaw the productionof this volume: with 'help. froth Linda Croom, Lynn Phillips,and Mary Hey. I hope thilbook reflects y valuable.contributions.

S

The Future o State Funding

4

James Thurber was fond of saying, It is better to know someof the questions than all O. the answers." Adopting hisadvice, this volume step,back frop annualattempts to makethe numbers come' out igght and considers instead basicquestfons about state funding of higher education. -

Budget cycles turn as inevitably as the lesions. itelent-less and swift, these revolutions on the fiscal treadmill com-plicate the already difficult task of finding suitable rerconsesto thy needs of higher' More importantly, changingcircumstances have rendered many customary approachesto resource allocations inappiopriate. The needs of statecoll universities are clearly different today than theywere in L e 1950s . and .1960s. Moremer; the state's owneducational requirOments 'lave changed as a new generationof students prepares itself for working and living in an infor-mation society. If new answers are needed, we must firstremind ourselves of the questions. Then we must frame our

uses within the context of basic concepts and principles.can assist us in forming educational.and fiscal policies

appropriate to the 1989s.This book represents an attqmpt to get hack to the basics

on the topic of state financing in higher education. 'lb do so, .

"'must clear much of the conaptuikand rhetorical under-brink that has accumulatid over the years We must review

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the wealth of experience that states have in financing highereducation an tamable how wtcan better tap and,utilize it.Some experience consists of the perstpial knowledgeaccumulated by indivichials responsible for recommendingand- insplementing new mechanisms for resource allocation.Mich of the literature dealing with state financing of highereduCation consists of the documented experience of others.The most frequeitly cited writings are all descriptive innature (such as Miller 1964, Gross t973, and -Manny 1976).Those writing's that diinot inflect pertonal sotierierite5or pronvide descriptive accounts arc irfeyitably hcntatori in nature.They extol the virtues of one particular method or urgetheadoption of a.particular point of-view. What is missing is afuridamelsta4 conceptual basis for arpnizing thiS exfai-ence. We must be able to juxtapose and compareapproaches.It is crucial that we identify .which approaches are similar.-at heart and which are based on dramatically different setsof assumptions. Likewise, we 'must recognize the,

features of varioulapproaches and understand the context inwhich they are being employed. -

Three. perspectives inform, our consideration of state-level funding of postsecondary education. The erst concernsthe diversityand complexity.of higher education itself and ofcurrent mechanisms for allocating resources within theenterprise. We must recognize that we are spealdng of .3,C00unique invitutions. While colleges and universities havemuch in common, they are 'clearly different from each otherin important ways: The resource-allocation mechanifinsthrough winch they acquire their funds are sirailarly diverse.Examined closely, the funding process consists of myriadindividual decisionth arrayed in complex Ways by a largt andcontinually changing Cast of eharaclers. iltagetary decisionsare never, exactly replicated. from year to year, much lessfrom state to state. lb some degree, this diversity is bothwarranted and healthy. Not only must resourceallocatiftsprocedures reflect the unique context of higher education,they must also take s = account specific institutional andstate concerns e with time. Nevertheless, if wewish to discern basic = r. and principles that inform the,funding process, we must 16, beyond this complexity. In'

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these pages we address issues cominon to all states-andpublic institutions, without overlooking necemery:,clistinc-

. tions oiforming unduly broad generalizations.The second perspective that informs this book concerns

the importance of. recognizing sound budgetintprinciplei.. These principles argue that.thebudget process la more than a

indans of allotting resources; it is also an extensitur. of theplanning process and a framer of accountability. Withoutadequate planning, lesource allocation becomes nonpurpo:sive at best. Likewise, *aecolmtability mechanisnis normallyconsideied to be an integral part resource allocation areeither missing from, inconsistent with, or coutderproddotiveto many state funding sthemes. Our discussioh seeks togenerate some "first principles forum by those developingand implementing new or modified procedures for resource°allocation that reflect. sound budgeting procedures in othercontexts. .

This discussion of state fu 'n'clinig of higher etlucaticurdiffers from others in a thiiclerespect. We. view the processfrom the state perspective. Approaches to resource alloca-'lion hfve most often been developed froin an institutionalperspective. In other words, they represent institutionalmechanisms applied at the-state levetrather than approachesdeveloped expressly to reflect state prioritiei. It is littlewonder, then, that institutiondl and .s level admini&tratori seem to clash incessantly over the operational details .

of running colleges and univa, . The ineaanisn2s put inplace to guide the state -level resource- allocation processinvite state -level decisionmakers to treat, as policy variables,items that would otherWise be considered well within theManagerial prerogatives of institutional administrators. Thisbook adopts the state perspective for several reasons. -.Theview of state government is crucial because it is the locus ofthe decisionmaking with which we are concerned. Whetherby design or by default, resource-alkcation meclianismsreflect statepriorities and.educational policies. We take thisperspective not to the exclusion of institutional interests, butas a necessary and inVortant corrective to our customaryunderstanding of resource allocation.

3

4'This book speaki to the needs of public higher education

in. the -1.9130i. ,New circumstances, however, skald rugneceissrily force us to or embrace radically different

a approaches, Rather, m reexamine What has come to be; viewed as stdhdard practice anti-modify these aPproaches l .,

but important ways:k/hat is calledlot and whait thisvolume hopes to provide, is a set of ,concepts and principlesabquystate-level budgeting and )-etource *claim that:

1. Reflects the state perspective lbut,not to the exclusionof Institutional cnterests)

'2. FroceOris firm and is consistent with sound principlesof b a': and management. . ,

3. D -the_ pppEcation of that basic principleiwi 41 the unique context of education

!iv

.WatUng t, these three perspvti'ves,` 410..caii, de-04 acoherent and conceptually sound picture of two relatively

r independent entidepostsecxindary institutions and stategovernment---bound together by a series of relationships thatextend beyand hula* to include governance. 6vice, andACCOU*Obilitit. 1 -

Publi4postsecondary education is r thuch a matureof state -virnmettt. Just as national defense is .recognized asa- function of the federal government, and elementary and

. secondary education- are generally Connidered communityconcerns, the governance and finance' cd Public highereducetion reside with the state. The relationship is nbt

. sive. The federal gofernnient -and, in some, slates," localgovernments do. contribute' to the aping operation ofpublic postsecondary education. Students,, too, contribitte a

' collectively significant "share. Newt theless, the tesixnsi-bilities of guardianshiplie-with state goirernMent.

Two facts Eeveal the strength And importanix% of thisbond. First, state government is by far the 'dingle: Writsouree of support for public colleges mut universities. States

I contribute abOut fi0 percent of the revenues that stipPottpublic highehducation'e instructionaland geziend expendl-turn. Remove the revenues constminell to supportresearch,

- and their shire escalailm to almost lo jereent. Second. the

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* ,share of revenues that higher education receives fromgeneral state funds typically rant second only to those allo-cated to eyinentary and secondary education. Clearly, state %...government4has an important stake in its educational institu-tions; these institutions, in earn, look to the state for theirsupport.Thqtfles are of mutual interest and benefit.

The basis gthis relationship financial supportmakesfo)kan association not onli close and strong, but oftenfrustrating and sometimes contentious. Because higheredliTtion receives a lion's share of the state budget, its con-stantregquests for more resquices often ring more hollow and

'strident than true. On the other hand, the state is tie primaryguOrdian of its colleges and universities. Advocates of highereducation muit of necessity look to the state not only forsubsistence bur for a reasonable quality of life. Inevitably,squabbles over levels or support and Organizational life-styles do occur; Such eruptions are seldom irc the belt inter-'

"eats of either party The, esteem and credibility of both are tooeasily diminished When inherent conflictsarenrt Inanagedand contained. Like nuclear fission, reactions can be a forcefor good if they are prdperly channeled; unconstrained,these reactions can become destruptive.

Recognizing, explibitly or implicitly, the importanceof keeping their give` and take within bounds,' both partieshive 'devised ways to smooth the aflocation process. Themating dance, in short, has been ritualized. Name states,approaches have become standard operating procedureswithout .a clear lind explicit agreement' the system' has 1-rassumed its present shape by precedent alone. Precedent; forexample, can lehd to the unquestioned assumption that last %year's allcatipn becomes the base from ('hick to calculatethis year's increment. Mechanisms fot special requests doxist in nearly all cases, but ,the bulk of the allocation is

determined through procedures with wflich participantshave grown comfortable over time In other states theseunderstandings have become codified in the form of 'budgetformulas or other structured guidelines. In these instances,the, key factors that enter into budget calculations are re-.

duced to explicit formulas through a negotiation process.

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Slier the years; state goverpnient and public posrsecond-

- ary institutions have achieved reasonable stability in theirrelationships. All parties involved halve tacitly recognizedand accepted the process by which funds are requested andallocated.. Consensus has also existed regarding whichfactors would be considered when adjusting allocations fromone year to the next. This stability, however, is crumbling.Cuktomary practices ke falling victim to changing links andnew priorities. In some states these changes are gradnai,alters, precipitous. The immediate cause is economic: Staterevenues are not expanding at a rate commensurate with theneeds of higher education. Theseievenues are limiter) eitherby a shish economy or by fundsinental social 'shifts that-have resulted in either revenue reductions or caps,on therate of expenditure growth within the state. samples in-clude California's famous 13 and its variants inother 'stales. Although now less 21. pant, inflation has alsowreaked havoc. It has often effectively transformed what-ever increases have beei2 granted into q net loss.

Economic condition0 have iilso forced varictus *tatepriorities into,sharper focus and, at thries; into direct(=Oct.Qften mandated by a leeslative statute, state connnitnwntsto elementary and secondary education, welfare, and otherprograms have been maintained at the expense Of highereducation, Not only is the fiscal pie' getting smaller in realterms, the sizes of the pieces are changing. At best, high&education's portion is staying conetant In many states,however, its share la clearly decreAsing (McCoy and Halstead19841. This has prompted many state ,and institutional

for , acinlinistr,itcrrs to trade In their pie cutter for the finalhatchet. few ,energy-rich states have been spaied thfse.strictures. Many states,- however-rare heiniforcedto changethe ground rules-that govern the process by which statefundi are allocated to postsecondary institutions. s

The changes being made or proposed take many forms.This reflects different state practices, unique coixiitions intheir external environment, .antithepolitiial and economicconstrOnts-that dictate' *hit change is possible. When dif,ficulties are not acute, states favor' modifications to theircurrent approach. Their first inclination is to give the old

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machine a tune-up and hope it carry them-through imemore budgetary season. Some states will fund their "poit-secondaq institutions at a percentage bf the f9rnmla or willallocate4unds to yield only a constant share of the fiscalpie.Those states facing relatively small revenue limitations canafford to tinker with the existing resource-allocaildh machin-ery and.fet it to work under somewhat altered condition.

Some states, however, are forcedor are Willinglychoosingto consider fundaniental kid radical changes in

. their funding procedures. Moreover, some that have made atseries of Ma:entente' changes in their appsoaches now findthemselves with badly flawed or unworkable akninge!nents.Funding. at a "percentage of formula" catle be a reasonableshort-term solution to a fiscal problem But if the solution isrepeated over a series of years so that instituthins are fundedat 60 or 70 percent of the formula, then we must question thecontinued desirability or even viability of -this approach.Continued application of gand-akis will not result in a cast,the kind of solid support needed to remedy today% problems.A few states are being forced to make more radical changesbecause of precipitous and pot I laver* dadines intheir economic fortunes; Even if economies Aboundfully, pent-pp demand for state resources will create analtered fending environment that can't help but affect theprocess for many years to come.

Finally, many states are rethinking, in whole or in part,their approach to resource allocation. They are not promptedby., economic neceisity alone, but by the recognition thattheir funding mechanisms are no longer synchronized withstate priorities. Be they formula or incremental approaches,funding mechanisms are devices for bringing some measureo certainty and stability to resource allocation. They are notgeared to respond to rapid change or to reallocate fundsswiftly among shifting state priorities. Change, however, hasbeen the-hallmark Af the. last &cede. Many of the resource-,allocation mechanisms now in place were developed at a

. time when the baby-boom cohort was reaching allege age.At that time, the primary state objective was accommodatingthe horde of new students. Clearly, condition; and objectiveshave changed. Enrollments are now increasing if at

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all. Ibday, states are more concerned with maintaining thequality of their institutions and promoting the economicdevelopment of their region than with expanding theircapacity to serve more students.

The above reasons indicate why approaches to resourceallocations are In a state of floc.-Administrators at both theinstitutional and state levels are exhibiting considerableinterest in new approaches to their budgeting probIdeally, these approaches will adconlmodate their chancircunistances but will not require them to abandonprinciples or priorities. Although the need to changeapproaches is 'widely accepted, little guidance forsafely navigating these uncharted waters. As a con.seirence,administrators recommending changes can be expected torely on a dustrinanuitrategy: borrow the basic solution fromsomeone else and accominodate local, idiosyncratic concli

. tions by modifying it over time. This was the method usedby many states in the 1950s and 1960s when incorporatingfunding formulas into their resource-allocation process.Note, for example, the plumber of southeastern states thatborrowed directly or. erectly from the 'Dues formula andthen modified that f ; twit their particular needs.

This "borrow and ;,. pt" strategy has, however, severaldrawbacks, First, it requires some states to innovate, to take,that initial, risky step. After all, there has to be a bandwagon

'before anybody can clamber aboard. Several innovationscurrently meet this need. For example, Indiana has adopteda nugginal-cost approach and Wisconsin a fixed, andvarigle-cost approach. Tennessee has initiated aperformance-funding program for promoting outcomes con-sider:.. important from the state perspective, Colorado's,"M 4, urn of in importantways the relationship between statirvernment and state-supported colleges and universities. These examples'illus-trate that innovative responses ire emerging that addresschanging economic and educational conditions. It remains4obe seen, however, which if any of these initiatives provesitself w y of widespread emulation. .

The drawbick to the "borrow and adapt"strategy . 1 ves from applying someone else's solution- to

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yOur own problems. A budget is a means for impleirientingapolicy. History suVgests, .however: that it is all too easy tobecome preoccupied with' the means and lase sight of thi''policies.and priorities that lie at their heart. Before a stateshould adopt anther's procedures,' it is essential that itunderstand the key policy implications of that approach.Surgeons, for example, have learned that when transplantingan organ from a donor to a recipient, a long list of specialconditions must) prevail. Likewise, administrators mustundersiand the idiosyncratic conditions that preiail beforeresource- allocation approaches can be successfully trans-planted from one state to another.. Without such an under-standing, the transplant snag be rejected, to the discomfortif not the peril of the borrowing state:The potential forrejection is exacerbated -when we ignore whatever crudeunderstandings we do have in the rush at* change pro-caddies. Progress by trial and Fir& can evilly turn into noprogress at all.-

The third limitation of this strategy lies in ale fact thatwhile it is easy to borrow, it is considerably more difficult toadapt. Whatever the:current bhdgetary practice, one can besure that it evolved to its present state over a period of time.One can also be sure that this evolutiorf did not occur flaw-lessly. Few participants familiar with the resource-allocationprocess are without tales of a procedure or a legislative provi-sion that did not become a mild if not unmitigateddisaster.Borrowing someone else's solution increases the need forfield modifications and, consequently, increases the proba-bility that significant problems will emerge.

Mention of these drawbacks is not intended to argueagainst change; change is not only inevitable, but necessary.Rather, it is intended to argue for informed and consideredchange. If we are to develop new approaches to resourceallocation, we must first ensure that they are grounded inappropriate concepts and assumptions and reflect soundbudgeting principles. In short, this book argues for a returnto basics. The'next chapter deals with several key conceptsthat can form the basis for devising a set of first principlesfor dtate-level resource allocation. Concepts given closeattention in chapter 2 include the link between budgeting,

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planning, '"andtaccountability; governance relatiOnships; pro-duction functions in higher education; and key structuralcomponents of the budget. Chapter 3 deals with customityapproaches to resource allocation, evaluating them in light ofthe principles artd guldillines presented in chapter 2.

Chapter 4 describes the changing envionment that isaffecting resource allocation and, in (ton, discusses actualand potential responses to these psoblema. bang on theConcepts developed in chapter 2, the fourth chapter assessesthe strengths and weaknisses of current efforts to bringresource, allocation in line with today'seconomic and educa-tional realities. No attempt is made, however, to inventory allcurrent practices or to report on the latest happenings inhigher-education budgeting at the state level. Chapter 5 sum-'marines key' recommendations and identifies thaw supswhere reform of resource allocation may further theaima ofboth educational institutions and state government.

With thi exception of the final chapter, an effort hasbeen made to avoid prescription and preachment. 'The bite*of this book is to logically develop a conceptualwithin which funding itreclianisms can beevaluated. Above all, it is hoped that the concepts. presentedwill help administrators in state government, legislativestaff, and executives at colleges t and universities to ilevelorarrangements for resource allocation, planning, and account-

,. ability that are appropriate to the 1980s . If these arrange-

-ments are to be successful, they must simultaneously servethe priority needs of the state, recognize key institutionalobjectives, and accommodate the economic realities of ourtime.

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financial exercise that starts and stops with the bottom line ofthe appropriation; its point is reduced to djvAring up the pie.

Unfavoiable economic conditions only reinforce thisperception. State legislators become preoccupied withsqueezing morkrevenues out of an already burdene# systemand cutting all tions in discretionary areas of the budget;They wish to mike ends meet, as indeed they must accord-ing to nearly all state constitutions. When tides of red inkrise, legislators and state administrators can-easily lose sightof other functions of the budget. These functions are notsimply supplemental or auxiliary. Rather, they invest thebudget ini process with meaning and purpose. That thesefunctions are often less visible than the bottom line does not

- negate their presence or importance.If we take a step back from the numbers, we come to

view the budget not so much as a docurnent but as a process.For examplb, Peter A. Pyher 119731 considers it as part of anintegrated system that includes planning as well as budget-.frig. While planning identifies desired **outs, budgetingidentifies required inputs. Reginald L. Jones and H. George

'tin succinctly characterized the key features of thesystem:

A budget can be regarded as primarily a plan or goal orobjective, 'and we know of no better definition of bud -feting than to say it is primarily a planning and controlsystem. Each word in that definition is important for a

. full understanding of budgeting's proper role. The plan-ning and cordibl aspects relate to the fundamentals ofthe management process. (1966, P. 141

Even this somewhat technical definition does not embracethe full substance of budgeting or reflect its broad impact. AsAaron Wildaysky correctly points out, budgeting cannot bedisassociated from its participants:

Budgeting deals with the purporles of men. How canthey be moved to cooperate? How can their conflict&beresolved? . . . Serving diverse purposes, a budget can bemany things: apolitical act, a plan of work, a prediction,a source of enlightenment, a means of obfuscation, a

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4mechanism -of control, an (gripe from restrictions, ameans to action, a break on progress, even adkrayer that ,the powers that be will deal gently with the best aspira-tions of fallible wen. [1974, F. 3DM]

This book will not attempt to unravel some of the moremetaphysical implications suggested by Wildaysky.. How-ever, sefend functions of the budget suggested in the abovequotes mtlsi be kept clearly in mind when we discussapproaches to resource allocation.

Linking Intentions and Actions

A budget's primary function is to span the distance be-tween intentionand action. It is the device by which a statecarries out its/plans and by which it signals its priorities. Weshould Irma/Ithat states do support higher-education systemsfor reasons other than habit. Some motives are highly amorrphous (an educated citizenry will enhance the public wellbeing), while others are very specific (state economic growthdemands the availability of continuing- education programsf9r engineers employed by area industries). More often than

these priorities and purposes remain impliFitat best.They are neither written dowrrnor agreed to by the principalparties. Frequently we can only infer the interests andmotives that the budget process harbors. Ibday's hot issuemay receive attention, but rarely is it incorporated into alonger list of purposes that may be equally importantt-if lessflashy.

These priorities change over time, and legitimately*.Indeed, they often change faster than the budgetingmechanisms put in place to finance their achievement. As aconsequence, operational priorities are largely determinedduring the budget process. The budget can become, in fact,an ad hoc surrogate for careful planding. Because the processof allocating resources recurs every year (every two years ina few states) and because it has a direct and dramatic impacton institutional operations, #

ably responsive to the signals thattors, re: F :4

erstand-"" that pror:$$$ throughcess. Indeed, the budget is the. , k$.;. $

140

which `states can reward and grant favor in tangible ways tostate organizations and their employees, Other control 0

devices, such as laws and regulations, constrain or punish;they are not designed to provide incentives. The power of thebudgeting process to capture the attention of insfitutionaladministrators is further heightened in those states wheregovernment, through hmd:Ing or stareory 'control:14 is clearlythe dominant external constituent for the institution; .

Because the bUdget and theprocess by whichit is deter-mined exert 'considerable influence, statepurposes reflectedin them are also given tacit or explicit prioiity. This pohitreceives far too little attention. Whed'all eyes concentrate onthe bottom line, it is easy to ignore the incentives and signalsbuilt into the process by which that bottom line is reachtd.Cynics may nat'be alone in arguingihat no state priorities arereflected in the budget, save perhaps operating efficiency orthe limitation of expenditures. However& be it by design oraccident, consciously or unconsciously, values and prioritiesare inherent in the budget and the methods used tecalculateit. These priorities may not be the ones that state offiaialswould chomp isyere their decision explicit and conscious, butthat does not negate their presence. How many state legis-lators, for example, would argue that their priorities are todiminish educational quality or boundlessly expand accessto higher education? And yet, incentives for exactly thesepig-paws are incorporates into most funding formulas. Thisis i*ot to argue that formulas should not be used or thatformulas as we have come to know them areiwrong. Rather,it is to call attention to the fact that procedures for calculatingbudgets are not value free. That these values are implicitrather' than explicit or that they weien't considered whencalculation procedures were devised makes them neitherneutral nor inconsequential. Once put in place,Nhese proce-dures will be used and interpreted in such ways that allow'institutions to maximize their revenues. This being the case,it behooves the state to consciously choose allocationmechanisms that reinforce institutional behaviors con-sidered most desirable.

Being a isxidike between intentions and actions, the bud-, get process can collapse a distinction that is vital to maintain,

23'

0

. 15

that betwee'n procedure and policy. Because state prioritiesare rarely made explicit, the usefulness of.thebudget as a toolfor state policy is severely limited. In the absence of policyobjectives, budgeting procedures take the upper hand. Thisresults in entrenched bureaucratic structures uninformed byany clear strategy. If budgeting is to promote, not hinder,educational policy, administrators at both the institutionaland state levels must consciously review not merely themeans for financial support but its ends.

Planning

Planning, the second key function of the budget process,,is the way we can consciously choose desirable ends. It is anexercise, however, that most states readily confess that theydo nut undertake. Some states still develop. and publish five;year plans for their colleges and universities. These plans-;however, almost inevitably represent a summation of institu-tional plans, not state objectives. Moreover, they offer lessplan than prediction. They calculate future enrollments andthe resources required to serve them, but fastidiously avoidany corisideration of educational policy. There is littleevidence of planning being used at the state level to proposeand then achieve a desirable future for higher edtication. Atbest, planning has been an effort to document an expectedfuture.

Although considered lamentable by many, this lack ofplanning is in some respects understandable. State govern-ment is not a monolithic entity. By design, policies are forgedin a political crucible. This makes any agreement on desirablefutures very hard to achieve. State officials, legislators, andcollege, administrators must confront legitimately differentand -strongly held views concerning "what ought to be"when trying to envision the future of public postsecondaryeducation. Since confrontation is painful, even politically dis-advantageous, it is often studiously avoided. This representslesg a tendency toward open compromise than a tendencytoward obfuscation and generality. Instead of achievingresolution, those inholved in the planning procels seekagreeable phraseology. Golden prose is written about the

4

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area). In such cases, the accountability or performanceclIttanumbers of degrees grantedmust- be submitted

before the next allocation can be calculated.Such a clear relationship between planning and account-

ability is the exception; not the rule: In the abseice of directcorrespondence, the common, tendency is.to frame acqount,ability issues in purely financial terms. Institutions are heldacZountkb,le for spending hinds in accordance with the waysthbse funds are generaieti. This turns the allocation algo-rithm into a spending plan; proCedure becomes a- surrogatefor policy. Funding algorithms-were not originally devised toserve this function. When by default theY,410 serve as aspending plan, they only cloud, not clarify,. sta ;ectives in

- higher education. An alternative is to build into` dgetprocess additional requirements for reporting and $performance. The aim of such requirements is, of course,Vot-better inform decisions concerning 'resourceHowever, they proceed on the assuMption that state

,purposes and priorities can be stated clearly enough to giveguidance to those engaged in reporting and monitoringaccountability.

Accountability loses much of its meaning when .statepriorities remain ambiguous, and desirable future conditionsunspecified. When little or no effort is.maile to understandstate purposes and intentions regarding higher education,administrators at all levels of the state system focus onmeans-bfitafaccountability rather than on ends-based stan-dards. Questions regarding accountability then typicallytake a different form: "Did-you utilize your resources asexpected?" rather than "Did you accomplish what we ex-pected?" Narrow concerns for efficiency drive out expecte-lions of effectiveness; doing things right becomes moreimportant than doing the right things. With this emphasison means rather than ends, the crucial policy questions thatlie at the heart of state-level resource allocation are answeredby indirection and inadvertence, if indeed they are answeredat ail

1

26

17

41'

s'

Current Practice

The functicuis of planning and accountability that shouldaccompany, indeed inform, the budget process are-absent from t state practices of resource- allocatiThis bridge between intentions and eons.turn, the budget process becomes but a bureaucratic thicketuninformeli by foresight or retrospective twalysis. As sug-gested iq figure 1, when planning and accountability aredenial their prIver roles, the entire process of resOurce$1kirtation is short-cireuited.' The budget then becoines .adosed but infinite imp. What are sometimes mistaken forplanning and accointebility are actually mirror images of thebudget itself. The process can sometimes become nothingmore than a self,referentiaf n $. Om that compbundspast errors and frustrates any s improvenlent;

The relationship between one's. approach ?to 'ressitirceallocation and the (ends it achieves does exist whither or notthe link is explicitly recognized:Clearly, there are twochoices. One can start with priorities and objectiVes in mindand then fashion, in turn, a resource-allocation process thatwill provlae -incentives for : achievhxg those purposes. Theuninviting alternativg is to start with or inherit a resource-allocation scheme and accept, often blindly, the 'conse-quences of the incentives and values that inevitably lurkwi tin. that system.

1T states are to mend the ways and incorporate irur-

poses and prioritieS into the budgeting process, they nuzstavoid both sins ot'aommission and.,omission. On 'the, onehand, mechsulisms for calculatinii the budget are ofteri builtin such a way that they create incentives for low priority oreven unwanted outcomes. On the other hand, the power ofthese mechanisms to influefse institutional behavior indesirable directions is 'seldom exploited to anywhere near itsfull potential:- ifirely is explicit use made of the budget andits calculafiOn mechanisms as an incentive and vehicle Loxeffective educational policy: .

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TABLE 1, continual

of the state's system of higher education appropriate?Should allinstitutions be maintaihed? Should missions bechanged?

2. Conformance to missionDo programs fit intended insti-tutional mission? ..

3. Student qualityfinstihational selectivityAre xiesirableadmissions staodards being stained?

4. Institutional qOality-.-ls the effectiveness of the institutionbeing miistaifed cir improved?

5. Program quality; Are desirable standards and curriculabeing, maintained or developed in various programs anddisciplines?

6. Resource quality. 1 fFacultyFacilities

711 LibraryISLE 4. ent

7. Insti viability (a composite). Do institutions havethe financial resources to retain a critical mass of qualitystudents, programs, faculty, and fiwilities?

D. Contributions to eatsI. EmployersThe provision .of trained/retrained man -

power, consuiting,.and Ober services.2. DisciplinesResearch contributions to specific or a broad

range of disciplines.3. State. II

Service to state agenciesEconomic developmentManpower to meet high priorisions, teachers, high-tiactand

4. Special subpopulatlons within the state.IndigentRural residentsInner city residentsAgriculture or other specific industries

B. Efficiency Aimsto accomplish all of the above with theleast draw on the state treasury.

needs (health profes-

21

22

When any state becomes preoccupied with balancing itseducational checkbook, it loses sight of three crucial points: wswp,

why it is buifing, how it is buying, and what it Is buying. Inother words, it _loses perspective on planning, budgetarymechanisms, and accounfabilitakAn awareness of the largerscore and purpose of state-leveffinancing of higher educa-tion is necessary if we are to avoid becoming prisoners of thevery budgetary mechanisms. we have eroded.

-7

1

The Chgardzational Context,

Public institutions of higher education are heavily-detOendent upon and influenced brstate government. The.few exceptions are a handful if federally funded inatitutions(and those community colleges tbakareincally financed andcontrolled. State colleges and universities are established by*statute (in some cases, omstliutionally) and are. thereforecreatures of the State. Because thefareleavily subsidized bypublic funds, they are susceptible to" direct interv(ntion byboth legislative and executhie branches of state government.Nevertheless, these institutions are unlike any of admin-istrative or operating arm of the state. They are not stateagencies in the swne sense as the Deputment of Corrections aor the Division of Hmziali Serivica. Public postiecondariinstitutions are invariably estiiblished as separately, or-ganized corporate entities with their' own governance andpolicymaking bodies, They therefore have a special relation-ship with state government and enjoy a certain degree ofindependence.

This governance arrangement is, e suffices to distin-guish higher education from most - = of state govern-ment. Other organizational of higher educationfurther differentiate colleges and universities from stateagencies. These characteiistics have a direct bearing on theform:and effectiveness of mechanisms for resource allocattion and accountability. We will be better able to appreciatethe larger context in which state-level financing operates byconsidering, the constituents and fund as of state Mahn-tions, the governance relationship between institutions and

V

31

the state, and educational production functions (the mannerin which institutions achieve educational outcomes).I

'Constituents and Funders

Postseiondary.rinstitutions are by design pluralisticbodies. They must simultaneously serve the needs and pur-poses of various constituents. At an absolute minimum,state-sqpported colleges and universities have two clearly.defined audiences: the students enrolled in the institutionand the collective needs of state citizens. Most institutions,however; hive many more constituent groups from whichthey receive some measure of support, to which they providesome kind of services, or by which they are regulated in oneway or another.

These different constituents contributerefources in airariety of forms; such as money, time, or influence. In turn;they all hold sr:kiln expectations regarding the consequencesof tiAeir involvetnent. Federal agencies, for example, provideinstitutions with funds for research, library books, scientificequipment, institutional devekipment, and many other pur-poses. In turn, they extract adherence to a wide variety ofrules and regulations, some tied to the funding, many not.They may also specify performance of certain programactivities as a quid pro quo.

Business and industry have their own agenda for highereducation. They seek as their employees college graduateswith training in selected fields, promote the provision ofinstructional programs that serve the continuing-educationneeds of these employees, and rely on universities for break-

througths that fuel technological. development. Whetheracting as individuals or as foundations, philanthropists alsoprovide funds to institutions. Although they generally havethe shortest agenda of any fonder, even they have someexpectations regarding how the institutions will behave inresponse to 'their generosity. Faculty and other employeesalso have expectations, particularly in regard to the nature ofthe organizational environment that is so important to theirjob satisfaction and productivity.

32

23

Some of these constituents-view their contributions aspayment for seivices. rendered. Students are an obviousexample, but government and industry can be similarlycharacterized, such as when they purchase research or otherservices. Other constituents view their contribations purelyas investments in the future of the institution. Donations tothe endowment fund, for example, are clearly made with aneye to the qng-term visibility and capacity of the institution. .

&ate-government is unique among these various consti-tuents, and likewise its agenda is very different from otherindividuals and groups. With`the exception of a few co)ssti-tutionally created universities, state _government has thestatutory responsibility and authority to createiioilign.ize,and divest, itself of public postsecondary institutions andtheii assets.' Andle boards of trustees -or regents are estab-lished to carryout the governance said policy functions ofcolleges an uniyersities, .state government hotels ultimateauthority. This authority can be wielded 'directly throughstatutes or hidireotly, through the budget.

As a function of this responsibility, state governmentmust necessarily view the institutkon, or its system of instills:-Lions, in investment terms. Cleariutate government wishesto maintain or create a desirabk mix and location' of post-secondary institutions and prdpams. It also desires qualityfaculty, appropriate facilities up-tcrdate laboratory ,equip-ment, and libnny and other information resources that are atleast adequate to the needs of each institution. Of course,states do expect more than "good"' institutions to result fromtheir appropriations. They also expect trained manpower,solutions to problems facing the state, and certain goods andservices that may also be priorities of other constituentgroups. These expectations, however, do not lessen_what isthe state's primary obligation: concern for the condition of itseducational assets, whether in the form of programs, faculty,or buildings.

Two salient points emerge from this brief discussionabout the pluralistic nature of higher education. Both areobvious but are so important as to warrant repetition andfurther emphasis. First, while state government is the majorconstituent of public higher education, it is by no means the

"IN4

only con ht. College admtnistrators are faced thenecessity of simultaneously responding to # groups,each of which has provides financial or other resources tothe institution and each of which has a somewhat different _

set of .expectations. When compared to state government,these other groups may have a small butevertheless impor-tant stake in the enterprise: As a result, hatever kdgetingprocesses areiput in place by the state must serve the state'sneeds but not diminish the institution's ability to respondappropriately to other constituents. Second, of these variousconstituents, state government is the fonder that must con-cern itself with the ongoing viability of its higher-educationsystem. No other group has a material interest in the investment component of support to public colleges and =Aver-sides. Others are better viewed as purchasers of services. -N

Indeed, what sets state colleges and universities opted fromtheir private counterparts is this public responsibility for thedevelopment and maintenance of institutional assets.

Governance

Thektudget is often the most tangible and direct linkbetween state government and its educational institutions.However, the structure and purpose of that budget are oftenshaped by the governance relationships that ,-st betweenthe state and these institutions. Although perhaps pot imme-diately apparent on a day-to-flay basis; these governancearrangements have a pervasive influence on ho* the budgetis conceived and implemented. These relationships can becomplex and, mor4ver, can differ greatly from state to state.

nIt is not the purpose of this book to describe these com-plexities in detail or to enumerate all existing varieties.Instead, it is far more helpful to consider the continuum ofpossible relationships. As suggested by Denis Curry, NormanM. 'Fischer, and Ibm Ions (1982), these relationships span abroad spectrum (see figure 2). At one end of the spectrum,educational institutions are treated much like state agencies.At the other end f the spectrum; institutions function muchlike independent, nonprofit organizations with which thestate contracts for desired services. in practice, of course,

; 4

;A

26

f

FIGURE 2

Governance Relationships

Greater Institutional Autonomy

Greater State Control

pinnain Denis J. earty, Noon: M. Pischen and *n loos, "State Policy Optionsfor Pinancing Higher &Wad= end Accountsbilily Objectives," Ham*Issue PR" no, 2 IN State Council for PostsecondaryEducation, Gmarnittee of the Whole, 1 February f9824.1

4

neither of these extremes is found in-its Pure state. Neverthe-less, they represent,the tArn poles of a continuum alongwhich we can locate actual governance felationshipS. As wemove along this continuum from the state-agency modeltoward the free-market model, wefind that the state's role isincreasingly circuinscribed and that institutional autonomyexpands correspondingly. As an expansion Of figure 2, table Zcharacterizes these 22fferent arrangements with respect tofinancing, budgeting, and accountability.

Drawing upon table 2, we can arrive at some concluaionsabout the close-relationship between governance arrange -ments and the structure and function of the budge,!. As withall generalliations, there will be some exceptions.

Means versus En& Under the stateogencythe state places emphasis on the ways in which institutionsfunction. Important variables include such factors as classsize and the number of contact hours faculty members arerequired to teach. At the other end of the continuum, the

4,

4

free-market model expresses state interests in terms ofpurposes or ends. The question here concerns what servicesor oppoittmitie.s the state is buying from the institution. Inother words, the state-agency*model emphasizes operationalpurposes; the state's priority is to have educational institu-tions function in a particular way. By contrast, the free-market model emphasizes strategic 'purl:ones; the state'spriority is to have educational institutions achieve certainends that serve broader state purtmses. Clearly, differentgovenumce arrangements both, presuppose and reinforcedifferent state objectives for higher education, be they opera-tional or strategic. In short, governance relationships reflectstate priorities.,

-Accinintability. Bemuse, state purposes for higher educa-tion are expressed in different ways under different forms,of governance, accOuntability arrangements will also vary.Un4er the state-agency made!, issues of aroimtability focusa l m o s t e n t i r e l y on.. titit procedure, and emphasizeprimarily fi*cial isideratirms. Were expenditures madein accordance with the details cones in the spendingplan? Were stipulated Procedures foljpAted for handling avariety of transactions in su4Faireas as personnel andpurchasing? Because this form oraccountability is largelyfinancial in nature, the for ensuring accountabilitytend to be directly into the budget process.Figures about actual expenditures during previous yearsbear directly on discussions about future budgets. Issues ofaccountability under the "free-market model focus leis, onfinancial matters and more on outcomes and effectiveness.As a consequence, considerably different data and reportingmechanisms are required to monitor and demonstrateaccountability. These arrangements- Can- be air adjimato thebudget process can lie 'almost entirely outside of it.

Constituents. OVa state-agency model, the statelooms as the overwh t dominant , tuent When"all funds, regardless of their' source, are a . into thestate general fund and allocated through, I, ve acts, theperspectives. of other constituents are masked. Such circum-stances militate against simultaneously achieving an array of

37

. -

4 , . r

products and benefits that serve other groups. These qp-stihients simply lack the, leverage they need to make theirvoices heard. Under the free-market model, the state is justone of several "customers" that the institution serves. Thiskind of governance creates great incentives for institutionaladministrators to maximize those benefits that serve avariety of customers. It also creates circumstances underwhich constituents-other than the state have considerableincentive to enter into mutually _beneficial arrangementswith the institution.

When state guidelines become 'highly prescriptive, insti-tutional managers are left with very little maneuveringroom. This makes it more difficult to design activities thatserve multiple purposes simultaneously. In turn, other con-stituents may by less willing to invest their funds in lb&institution under these conditions. When governancearrangements approach the state-agency model, institutions

:lbecome less able to tap potential support fro .ether coast'-tuents. Their revenues are deiived almst- exclusively frontstate appropriations.

Consumers and Investors. Under the free-market model,the state becomes a consumer of educational products andservices. It invests in the educational system only insofar asit utilizes institutions in ways similar to othet constituents.Under this niodeMpreserving institutional viability becomesthe responsibility of the individual college or university Inall other models, thetoatescetains responsibility fqt creatingand maintaining the system of higher education. I

Methods of Resource Allocation. Governancements do not necessarily determine the method ofallocation. Various mechanisms for calcuting the amountof support can be employed in all of these models, However,there are some obvious affinities. Linder the state-agencymodel,, educational institutions are treated like all otherbranches of government. Under, such an arranpment, wecan easily expect incremental budgeting on a line-item basis.Under the free-market model, the level of service as wellasits price wills.be subject to negotiation. Between these two

_extremes lies the full panoply of arrangements that exist inthe SO states.

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30 I

The relationship between governance and methods ofresource allacation has further ramifications. As is illustratedin figure 3, the level o* detail incbrporated into budgetcalculations can vary. The amount of financial data employed inthe budget process decreases as one moves toward the free- 4market arrangement Conversely, the agaount of data aboutperformance, effectiveness, and outcomes increases. Underthe state-agency 'model, the state ooncerna itself with alldetails of institutional functions and programs. Under thefree-market model, the state is concerned wititlinancial data

. only to the extent that it is used in justifying or negotiating4 the price of opportunities or services it chooses to purFhase.

The above five points emphasize that the budgeting pro-cess is shaped not only by a state's educational objectivesbut also by its policies regarding governance and level ofcontrol. Indeed, these two notions work in close tandern4oreinforce a particular approach. t state control, goeshand4n-handVith . ural and . nal purposes andleads almost inevita to line-item b and a finance-oriented accountability system. Less rigid state controlprovides, the opportunity to include more ends-orientedpurposes. This in turn promotes budgeting :schemes andaccountability Mechanisms that focus on services renderedand objectives achieved.

As should'be apparent, structural and philosophic (oresprovide the environment within which budgeting systemsmust be devised and assessed. These forces vary greatly fromstate to state. This should give considerable pause to anyonetempted to borrow new budgeting approaches from otherstates without investing considerable effort to understandthe contexts within ich it is operating. "Environmentalfit" is a topic far fob little discussed in the extensiveliteratureon formula funding and other budgeting devices. By concen-trating on basic concepts and emphasizing the broad contextwithin which the budgeting process occurs, this book isdesignsil to help fill this gap in both theory and practice.

39

' .

47,

FIGURE 3

Areas of Emphasis in the Budget Process

J

State-AgencyModel

e.

Production Relationships

Free-MarketModel

Most educational outcomes can be p cad in a varietyof ways. in other words, educatiortal ction *relation-ships are very loosely defined. For (wimple, instruction canoccur through large lectures or through small seminars; faceto face or through such media as television. Similarly,research activities can be conducted by employing seniorresearchers, fulPtime technicians, graduate students, andundergraduate stu s, in widely varying proportions.Again, num St factors influence just how a project isaccomplished. e areS no absolutes on how best to goabout the business of education. Deciding whidi productionrelationship to employ is a function of institutionalpreferences, the skills of individual faculty, and theavailability .of faculty, facilities, egisipment, and other

31

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Atigyzing these multiple outcomes is difficult becausesome are directly intendecand accomplished by postsecon-dary institutions, while others are merely ancillarytteffects,The line that distinguishes what is actually produced oncollege and university campuses and what is not remainsunclear. Moreover, some production relationships occur ontechnical grounds, while others.arephiefly organizational in-nature. Sheep raising is a good example of joint productionthat proceeds from technical considerations. To otitputs,wool and mutton, can be produced in varying proportions bya single production process. Itacli output is a natural, indeednecessary, consequence of the other.

joint production in higher education occurs on differentgrounds. Colleles and universities produce outcomes jointlynot. out of t necessity but for reasons of mania-

-tional efficiency = * effectiveness. Clearly, it is not valid toseparitte one activity such as teaching or research) and,analyze produttion and cost relationships associated With it

. in isolation from fl) Other institudinial activities., Colleges-and universities organize thernselves to produce multiple,not single, outcomes (through one set of tx7ordhuated activi-ties because joint production con be more cast-effective. Inother words, they wish to maximize the possibility of jointsupply, it condition in which multiple outputs can be pro-duced more cheaply together than separately.

The possibilities of joint supply on,collegm and university'campuses justifies their being assigned the. Various functionsthat are now commonly accepted as being within their pur-view. For example, much of the nation's basic research isconducted in research universities rather than in separatelyOrganized research centers: The rationale for this should beclear. Research activity produces knowledge 'while also`ediicating a new generation of research scholars;Conversely,.graduate education issuch that it also yields new discoveries.

. The assumption is that combining both functions is, or atleast can be, cost-effective.

Although colleges and universities,genenally undertakeac $lvities that yield multiple outcomes, their activities arenotsolely of Chia nature. if the expectations of certain constituent'groups are to be met, institutions may.-have to institutespecial programs. The benefits'of these activities may not

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natural selection process, such institutions attract consti-tuents that have compatible expectations. Institutions thathave particularly fwzy-missions or project an unaear insti-tutional image to various constituent groups are most likelyto be faced with irreconcilable deniands from their variousconstituents. this is not to say that independent activitiesand programs cannot be established to respond to theseneeds. Indeed, such a capacity is one of the virtues of thelarge public university; it can put forward different faces todifferent audiences and do so successfully. What is lost,however, is the opportunity to gain some efficiency in theaysteut If state-level rewurce allocation is to take advantageof the benefits offered by joint-production relationships,administrators m be willing to devise schemes that areresponsive to and nforce different institutional Mi8SiOnS.

ti

The Structure of the Budget

'Having discussed the function and scope of the budgeta. and some of the contextual factors that must be considered

when developing an approach to resource allocation, we cannow consider in genetic terms what structural componentsmake up a budget. Higher-education budgets are formulatedin nearly as many ways as there are states. Nevertheless,these many approaches can be viewed as combinations ofonly two basic forms: a multipurpose (core, general) compo-nent, and varied 'numbers of single-purpose (categorical,*dal) components.

The Multipurpose Component

Invariably the larger of the two components, m<purpose funding provides support for basic operations anprograms. State allocations to the multipurpose componentare accompanied 1* expectations that the/will meet nearlyall educational objectives. The majority of these purposes areclosely interrelated; yet seldom are they made explicit in anyorderly or comprehensive way. In many respects, it is dif-ficult to achieve consensus about these purposes in anything

44

but glittering generalities. Nevertheless, it is still possible toidentify several key state ptuposis that are closely tied to the .core component of the budget:

1. Access to higher-education opportunities. While accessfor stale citizebs is not an end in itself, irumy benefits doaccrue from a morehighly educated citizenry. This con-.Ames to make access* educgtlimudopportunity alutsicstate purpose and an. (miming priority. .

2. Economic 'development. States are ecrinfomic as *ell pispolitical subdivisions. As such, a' healthy econotfty isnecessarily e statittiority. Higher education can meetthat objective through training- and retraining of askilled work force, through research and innovationthat assist key state industries, and.through its role as amajor esmloyer and industry4n its own right.

3 Maintenance and enhanCement of the edueation.alsystem. Unlike other constituents of *public highereducate, the state has responsibility for developingand maintaining educational assets. ItSpust decide thenumber and location of public 'postsectdary iastitu-.fions; the mission, role, inui scopecithese institutions; .'end the level of quality to be

4. Efficiency. Although efficiency is seldom lisked as amajor, state priority, actual practice is such that it canhardly be omitted from the list. Indeed, it may be usefulto incorporate efficiency into a more outcome-oriantedlist of state priorities so that inevitable calls for effi-ciency will be cast in terms of trade-offs .that mayimpinge on effectiveness.

because there are joint-supply considerations involved,the costs of achieving the above objectives cannot be par-celed out and treated separately. This is why states seek toencourage joint supply through a se major allocation.The msiltipurpose component of the budget is designed tosupport activities thatwill allow institufions to achieve thesemultiple yet ,closely interrelated purposes.

45

4

The Single-Purpose Component

AlthoUgh core funding for higher-education institutionsmay derive from the multipurpose component, no state canignore the seed to allocate special-purpose funds. Three 0.basic reasons' prompt states to approve single- 9 VI 9 alloca-tions above and beyond the multipurpose co nest of thebudget.

First, the single-purpose component accommodates thefact that states may halm specific objectives or priorities forhigher education that are best met by allocating a special mitof money,- In many-cases- these priorities ihay representshort-term rather than ongoing needs. In these circum-stances, it suits both the state and the institution' to create a"special project" to respond to the need, fund the projectwith special fads, and not incorporate these funds bito thebale allocation given to the institution. Under this arrange-meat, the state becomes, in essence, a consumer of services,

. with the financing airangement serving as a turchape agree-ment-Neither party to the transaction ,expects, or shouldexpect, the arrangement to be long-lived.

Second, the state may approve si*cial-purpose alloca-tions to create additional incentives for activities that ateongoing within the institutions but that have emerged ashigh priorities. Consider, for example, the recent need forteachers in bilingual education. Because of federal initia-

oditives, many bilingual-education programs were already inplace. However, there was a need to-increase the numberof graduates from these programs. Some mechanism wasrequired to reward institutions for responding to this need,yet one that would not institutionalize increasericapacity for **

an indefinite period of time. Single-purpose allocations pro-vided_precisely such a mechanism.

A third reason why states turn to single-purpose alloca-tibns is teat certain ongoing priorities may be best served byonly one or two institutions within die state system.Multipurpose allocations create incentives for Similaritytither than differentiation. However, as we noted earlier,states are better ably to foster joint productions in theireducational system if institutional missions are both 'clear

46

37

and differentiated. For'example, such functions as research.

and medical edtwation must necessarily be confined to a sub-set of state institutions: The same his true of 8"dvocational prpgrams. The state cannot afford to Offer theseservices at each Wad tntiodal site- The sinitle-PlgPoseamroach to resourcetdlocatinn canifoster and reinforcethese clearable differences.

arbining ComponentsCombining multipurpose and singlisurPose com-

ponents of the budget yields 'an institutional appropriationsuch as the one illustrated in figure 4.. clearly,. both forintof funding must *fork in tandem, Wheifiscal prOblerns talkin state ?igher-education systems; they often result frommisundentanfmg, neglecting, or *Ming one or both ofthese component& For example, when a state is unable tofund the core ccanponvt acitquately, it often seeks to comp,pensate for this by app additional single- purposesingle- purposeallocations. This approaciappealroving.s to legitlators and othersthe state level because it allows theiiito channel resource tothe "truly needy." Moreovez - this mechanism does notrequire the level of commitment netessary when flandingthe multipurposei comrnent, where allocation,. guidelinesare likely to' call for equitable treatment of all institutions.However, as William Pickens notes, this approach can haveundesirable consequences: Resource- allocation arrange-ments become "riddled with categorical or line-itemprograms which can I,- uce institutional flexibility, createprotected enclaves w ch are ,unresponsive to changingcircumstances, and tend to consume legislative time indetails rather than discussions of general policy or overalleducational effectiveness" 11981, p. 9)

frBy recalling that these two basic budgetary components

serve very different purposes, administrators are more likelyto make coriscions, nbt inadvertent, policy deaisions. Fundsallocated through the special-purpose component will thenserve the priority educational needs of the State rather thanits bureaucratic need for et budgetary escape mechanism. If abudgeting system is to wOrk effectively; states must apply theconcepts we have introduced with considerable consistency.

-

PIGUIU341aw

Combining Budgetary Canspikrents

0

Multipurpose(Core)

FundingI,

Although discussed more or less independently of eachOther, these basic contepts are indeed clorely interrelataland reflect key assumptions governing the relationshipbetween the state and its institutions. If the state exercisesvery tight control over the institutionviewing it, in essence,as a state agencymeans rather than ends become the focusof both planning .and accountability. This can discourage'other constituents from investing in the institution and, in alllikelihood, reduce possibilities ofidint suppiy. Moreover, thevery form of. the budge( will imprint this basic philosophyon day-to-day operations. If, on the other hand, the state'srelationship with its institutions approacles that of the free-market model, po ssibilities for joint supply vellt increase, andplanning and accountability will reflect greater concern foroverall institutional effectiveness.

'Pe coming .g chapters will focus on these relationships byassessing, current budgetary practice and evahtilingthowstates are resionding to the budg,etary issues of the 1980s.

4 A it Of

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amount is then adjusted up or down depending on changesin a handful of basic factors. In the formula approach, asometimes simple, sometimes complex set of decision rulesis devised and reduced to quantitative form. This formulaprescribes independent variables and methods for determin-ing coefftientsf the amount of the budget request becomesthe dependent variable.

After reviewing the strengths and weaknesses of bothapproaches, we reach the conclusion that they are pot as dif-

'terent as they seem. Picking.between the two approaches islesSimportant than ensuring that the selected approach isdesigned to promote desirable, not counterproductive, ends.

-

Inexemelital Budge*The icremental approach serves as a convenient

method f adjusting, not refiguring, the budget to reflectchanging circumstances. This is likely why it .is the oldestand most established form of budgeting for colleges anduniversities: .In ithprotiability, it is also the most prevalent.Because it represents a less formalized and structuredapproach to resource auction, incremen budgeting is

er difficult to describe in comparative terms As a result,it f less prominently than formula In scholarlyresearch literature. -tie different ways that tea implementincremental budgeting has yet to be aocumentedadequately.

Two key assumptiOns allow us to describe tile salientcharatteristics of incremental budgeting. The first premise isthat the previous fees allocation, the so-called base; wasadequate'anct aioptopriate; The lidn's &are of the allocation(often 9apercent or =ire) is not recuunined, the allocationprocess takes this bape as a. given, and proceeds from there.Moreover, this besets expressed In financial terms ratherthan in work-load or program terms. This feature it consis-tent with incremental budgeting's proclivity not to reassessthle past.

The second premise is thafnearlk exclusive attention isdevoted to the size of incremental changes to that base..Fairly standard variables enter into the decision process:

C .

J.

fa

1,

1. The number of ackliticaud atudents served or the lit-tressed amount of access provided.

2, Inflation or other changes in- the cost of aciuiring orretaining necessiry resources,

3. The addition of either programs or-significant newresources, such as equiOnent or library, holdings.

4..Changis undestiken to improve the capacity of thebistitutial in wayf considered &driblet 0

The state's ability to pay. Regardless of any changes inthe abrivedfaciars, states cannot spend resources thatthey do not have,

Incremental-budg eting practices differ considerablyfrom *ate to state. In Minois; for examples increments arebased on prices ed resources and numbers of studentsserved. Institutions in the state are encouraged to start newPrograms by realloading resources rather thanby requestingan infusion of new funds.bther states, however, hove ceasedto fund groWth, at least at certain JinstitutiOns. Genet&speaking, the variables that mast directly affect the increment are often as ,much a function of tradition and vestedinterests as of chinged circumstanceil Rationales for budgetrequests are stated in tetras found to be acceptable :findworkable. 6rer a numjper of years, a unique set of standardoperating procedure l hal evolved in each state.

Incremental budgets halve much to commend them.They are abtive all, incredibly practicaL By focusing on afeasible set of adjustments, they inherently recognize thatthere are significant limits to the extent and pature of changethat can be accomplished within a college or university fromyear to year. Moreover, this approach has the virtue of beingvery adaptable. The increment can be devised and struc-tined in such a way that additional 'funds can be channeledto high-priority areas. 'These priorities can be changedannually, reflecting a response to enrollment changes in oneyear, chdhges in energy inices or sakrry costs in anothet andcreation of needed new capacities in a third year.

In practice, however, incremental funding is likely to bean exercise in reaction rather than proaction. Funds are

generally directed toward the institutional. scitteaky wheelrather than toward state priorities. Moreover, incrementalfunding rarely examines past budgets or the values andassumptions that they harbor. This creates a situation whereerrors are easily compotmdedkfroin year to year As a result,the incremental approach seldom becomes an effective toolfor implementing state policy.

Many of the drawbacks to incremental budgeting arealso those features that make the approach politically attrac-tive. The base is seldom jeoliaidized; when it is, institutionsgenerally share the pain equally. Moreove; increments arebased on such recognized variables as inflation and changesin the number of Students served. In short, the approach ispolitically attractive because it avoids value-laden issuessuch as state priorities and educational policy. It is popularwith institutions use it does not provide an inherentlystrong framework fo accountability. Performance factorsseldom if ever d' determine the level of allocation.Finally, the approach rarely upsets the distributiap of fundsamong sttOe institutions, a distribution. deemed equitable 4ffor no other reason than tradition. Sniping among institu-tions is not likely to occur when the base is establishedgiven and when the increment is calculated from factogenerally 9pplicable to all institutions concerned.

When judged in terms of the principles that we havedeveloped in our discussion, incremental budgeting emergesas a workable, though far from Perfect, solution. While itdistributes resources with relatively little fuss, it is not aparticularly useful device for translating plans into actionsor for promoting accountability. This budgetary approachrarely makes state priorities as clear as they might be.Although this method seldom jeopardizes the base, it doesnot eliminate uncertainties regarding the increment.

It should be noted that incremental budgeting does notitelf enhance or impede an institution's ability to .fosterconditions under which joint supply occur. More immediatefactors include the level of budgetary detail and the extent towhich accountability is viewed merely as an institution'scapacity to keep fiscal expenditures from outstripping

I

53

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lAtilliain Ffc s employs a similar definition when he stale;that formulas are

a mathematical Means of telating the workload of apublic institution to its State_ appropriation. Function-al* statewide formulas are ihebridge between costsan4, 'workload 'analysis ( infOrmation Whichdetermines relationships een programs and even- .

ditures) and he State ,I et (the document which,contains theapproved *yet of wipe:naives). (1981, E 8)

Although the above definitiOns describe the quantitativedimension 4formula fundhIg withpuffigient precision, theydo not take into account the context in which formuldsactuallOunction. ,..Richkre Pleisinger is not alone whenhe quarrels with the formal character of Miller's defini-tion, thereby *remiiding us that formulas have a functionaldimension.

On the stqdace, a formula appears to be nothing morethan a= mathematical relationship which states thatunder certain' cations &level of enrollment aninstitution will receive X dollars from the state. In fact,a formula is it combinatkm of technical judgments andpotitica agireenients: Because he formula is a 'set ofguidelines 'fOr the distribution of Sea= resourcesamorig cenipeting institutions, ttere is a considerable

of self-interest reflected in its estiblishmentan use. f1,975, F.'21

.4' .4c

In other words, Miiaiiiger argues that the "matheniaticalrelationshipyl central to the formula is arrived at notby analysis of objective data or judgments alonebut by analysis that is leaveried by liberal amounts of negonliatitin and political agreement No onewhohiprobserved theformula process in action could quarrel with Om manner in.which Meisinger has broadened its traditional definition.

With respect tg their structure,. forinulas have two baskforms. The first calcubtfes idlocations by multiplying Somework-load measure (such as the ,square feet ,of space to bemaintained or the numbet of Student credit hours) by a rate

±g, .

55

47

that may be either normative` inegotia feted h.`accePted, Or anarigiallY derived la teclinicalkidgmentbasedon cost stuxlies). This method can directly* translate basefactors into dollars, as in tin case bf student credit hours:

$ SCH s-cH

It can also intro-duce an intermediate step whereby work-lind measures are converted into resourceneeds such as thenumber of faculty), to which dollars are then attached:.

FIT FAC $a, Sad =11.SCH rrE It

It IS 11 1 1: t to recopize that chweinabetween these twoalterna Is no mere accounting decision( it is a policydecision of considerable =sequence. A second metithod for

:structuring a ficamida establishes a base fOr keY functions*such as instruction, by employing one of the approaches -*7described above. It then funds other fatictions, such asadministration or library services, as a percentage of thatbaie

$ - base + X% (base) for adminiatrationY% (base) for library

Here, too, the structure of the formula holds importantpolicy implications.

It is instructive, to note that the facts that "drive"formulas are ftzactly the same one, t deterniine the size of.the increment in'the incremental bu * approach. Thesefactors are typically the number of students seried or theprice of certain resources When considered bithislight, thedifferences between formula and incremental approachesbecome more procedural_ than substantive. TrueTTormulaapproaches do make the algorithMs for resoOtce allocationquite explicit, while in the{ tat approach, the pro-cedures remain both more implicit and more variable. This

difference in form; however, shouldnot obscure the fact thatboth approaches are very similar in Substance-

Although nearly all approaches to budgeting are inher-ently bureaucratic in nature, the formula approach allowsstates fo regularize the decisionmaking proceis; Indeed,formula funding represents an effort to streamline a process,that occurs on an annual for in a few cases biannual) basisand incorporates virtually the same factors from year to year.Allocations are determined through the application of care-fully prescribed policies, procedures, and decision criteria.Formula funding is, in short, a procedure for handling deci-sions so that they will not have to be treated anew each timethey recur. It indicates what factors will be considered incalculating budget requests and how these factors will be

f incorporated into the formula.The high degree of bureaucratic procedure characteristic

of formula funding serves to limit the role of politics whenactually allocating resmrces.' 'lb be sure, decisions surround-ing the original construction of formulas tend to be polittcalin nature, sometimes in the extreme. And with good reason;decisions made while structuring foimulas will affect. theparticipants for many years to come. In this respett, reaching,.agreement on the structure of a formula Is similar to negotia-Hans surrounding' a collective-bargaining agreement. Bothprocesses are highly political. Once concluded, however, theagreement prescribes standard operating prOcedures for allparties. Upon implemeutation, the emphasis shifts, fromdetermining the procedures to living by. them.

Formulas share many of the strengths and limitations ofother bureaucratic procedures. They make explicit whichfactors will be considered in the decision process. As a result,focus is directed at procedural variables, although these maynot be policy variables that reflect in any diiect way ,statepurposes or porities.These factors are known equally wellto all participants. In this respect, they improve communica-tion and enhance the efficiency of the -resource-allocationprocess. In the wards, of Mme, these clearly definedfactors "establish the areas of discretion add the limits ofdebate" (1975, p. 73. Meisinger continues by noting how

57

r 1

formulas lend stability to and remove uncertainty f;om thedecision process.,Formulits reduce the coutplezity of budget-ary standards, provide an agreedispon,frammork for dis- .

cussion, establiph limits for additions to or deletions from thebudget base, and provide an objective basis for determining

"fair shares" 1p. 9ff). In other Words, formulascarry with them the aura, if not the realfty, of equitabletreatment. Because budget requests for altinelitations arecalculated according-to the aame procedures, the protessitself seems evenhanded. The hidden' assumption, of course,is that the values and policies implicit in the process arethen selves equitable. ; ' --`

As with many bureauciatie priicedisres, Arian^. can ,also be perceived as limitations. While formulas are designedto be equitable, they can also level institutional quality.Although they do limit the role of politics in resourcealloca-tion, they can perpetuate old value Judgments will past thetime when new ones ar e. called for The very stability thatformulas create may ip time-liarden into rigiditi

Because formulas are bureittoratie procedures for a'arry- 4ing out decisions that were macii.at the time the forWere constructed, it is crucial to ask whether those decisions'reflect current rettlities In short, we "e> recognize that formule funding has histofical roots. Many if not most formulasdate from the ,1950s and 1960s. They were devised to enablethe state audits institutions to cope with the flood of newstudents, a very reasonable objective given the conditionsprevalent at that time. When .these formulas' were originally'constructed, two state purposes were uppermost in thminds of state administrators: (1) instilutions should liefunded adequatoly and, be given sufficient resources to-accomplish their increasing work loads, and 12) institutionsshoul4 be funded equitably with different institutions beinggiven equal support for similar activities, Both purposesreflect an underlying presureptiors of growth. ,

Although conditions haVe changed considerably overthe past 20 years, the basic structure of formulas has not.The, fixed procedures characteristic of formnlas and otherbureaucratic mechanisms are designed to funcflon in a stable

58

environment. They have I only so long as the deci-sion criteria imbedded in them valid. When condi,tons, or desirable responses to those conditions, change to asignificant degree, then the procedures must be restructured-accordingly. In most states, however, formulas have been

_Marginally over time. Coefficients haye beendetail has *In added, and other changes have

been made that do not alter the basic structure of formulas .

and by extension, do not challengb the underlying assump-tions and decision criteria incorporated Lifthose formulas.These modifications have had the effsct.of elaborating, notredirecting, the resource-allpaation wocess.

As a result, some formulas originally designed to respondto increased student enrollments now provide incentives tocreate those enrollments. New students are sought notbecause they are there, but to girgore the flow of dollars intothe institution. Many educational systems are now operatingas if the primary,objeetiye from the state's perspective werethe expansion of access for individuals of all kindi. This inturn creates incentives for Mstitutions to:

1. Re6ruit add admit students who, previously wouldnot have been admitted (thereby lowering admissionsstandards)

2. Approve credit for courses that were previously, non-credit courses (thereby lowering academic standards)

- 3. Retain students once they are admitted (an admirableobictive when not accomplished through grade infla-tion and reduced academic standards)

4. Proliferate" programs in an effort to respond to theinterests of morc potential students

hiincreased public accest to er education is not itselfbad. In many states, however, it become an objective bydefault, not designs Ideally, form should follow .ttrategy;that is, budgetary formulas should reflect state priorities andobjectives for highei education. In some states, however,changing environmental conditions have created circum-stances in which strategy is now heavily influenced, if notdetermined, by the formu.las employed.

4 59

51

The presumption of continued growth under whichformulas were originally `designed has proven to be wrong.

'Recignizing this has been painful for instibltions and state_ governments alike. The often .devastating.. effect of this

presumption can be best illustrated by considering the dif-ference between average and marginal costs. Most formulasreflect the average cost per stedent, which is calculated' bydividing total costs the total number -of students. The.assumption is that aBditional students will each oast theinstitution an additional 'averages amount to educate.Marginalcostgi, on the other hand, reflect the "extra" costsassociated with adding an " "ems "" student. By reflecting thatporiio.n of costs that varies by the number ,of students, themarginal cost more closely represents the actual financialexperience of educational institutions..

lypital ant curves for both approaches are depicted infigure 6. Because institutions do experience some eamomiesof scale, marginal costs tend to-be lower than average costsover at least the lower end of thi 41) I t range. Under atypical formula arrangement, an institu ...1) will receive xnumber °r adios for each additiOnal student. The lowermarginal costs incurred by the institutionresult in financialslack under conditions of growth. This slack hashistoricallyallowed institutions to achieve additional state purpreies,such as higher quality and program diverlity, within thelimits of the resources madcavallable-to them.

The passage of Hine, howeve44 has left us with merely thetangible. Formulas are transmitted as written hierpglyphics,but the passing years have eroded ow understanding ofthe conditions that prevailed and the purpose& that werepursued when those formulas were designed. Presuiptiontof growth led institutions to expeet the financial slack theyenjoyed due to the difference betWeenaverage and Marginalcosts; flowevet under conditions. of decline, this slackbecomes a shortirdl: 'When the state subtracts x number ofdollars for each studset that the jnstitutlon no-longer enrolls,the school may enjoy only maegingl savings, and hence a netfinancial loss. Recent ixnxiitions of decline, have proveddifficult .for colleges. and Universities precisely because_ the.

60

laf

FIGURE 6

. Average versus Marginal Costs

Average

Averageand % -

MarginalCosts

Formula Funding Arrangtiment(x dollars per siodent)

.411,

*SW 4.1.

Enrollments .

S Slack under conditions of growthShortfaE under conditions of decline

budgetary mechanisms in place ,operate under entirely dif-ferent presumptions. This recent experiencv is encouragingsome states to radkalli reconsider, not merely modify, theirapproaches to formula funding.

As ShOtikki be evident from our discussion of formulafunding, this approach to the multiptupcse component ofthe budget does very little to link state plans and prioritieswith real actions and initiatives. Indeed, it may create in-centives that. are contrary to state objectives. Like%vise, itdoes not provide adequate frinworks for accoiuitability.-

, Relatively little data that measure performance or theachievement of state purposes are incorporated directlyinto fOrmula valculations. Wee& the.-basic performancemeasure .utilizid- by; formula fundingthe mmiber of full-time equivalent (FrE) students septedis ably an imperfectproxy measure of whethez thestate institution is meeting thetraditional objective of iMproved access. Inatead, FTE .cal-culations compensate the institution for effort or work kid

.," r

s

a CA`7 ,`

rather than the total number of state citizens servid. While

.there are legitiinate reasons for considering instructionalservice instead of aocess, they are nevertheless very differentobjectives.

This emphasis on work loads rather than outcomes isiplsoevident in the way that efficiency objectives are factoreddirectly into formula calculations. Because cost factors arenecessary components of formulas, efficiency irt the narrowtechnical sense is achieved by holding 'these factors to alower level. However,, the efficiency achieved is 'oftenbought at the expense of reduced' 'effectiveness.

ism manna In Which formula funding tends to approachaccountability' has implications regarding governancearrangements. Most multipurpose formulas become morespecific over time. 'Modifications in the f strictureattemptito replicate the actual expenditure .4 4 ' of lnØ-tutiOIILAS d result, may formilai 'move ay flan the .

simple. base variable of FM students and incorporate newdistinctions' by course level and then by major. Likewise,there is a tendency to break' &Awn the coefficients in the-formula to reflect different factors of production fdifferentline items) and the varying rates at which prices change forthese fatton. In the erxl, this transforms these

' Into a spending plan to which theinstliution isable. This greater specificity can result in governance rela-tionships that are more state dominated. While variousapproaches to:resotuce allodation do not themselves deter-mine governance arrangements, it is Instructive to note thatsystems that approach the state-agency- model are thoselikely to esniloy detailed forinulas.

As designed in the 1950s and 1%0s, formulas were struc-- tured to achieve the goals.held out for them: the provision of

resources adequate to meetlnstitutional needs on an equitablebasis. In this _respect, -formulas were able to respondadequptely to a particular situation. They her not, hOwever,been able to respond adequately to change. The twin effectsof idemographic shift' s and economic stagnation hive forced

I num states. to 'reckon:eider ..the concepts," principles, and-, objectives at work in their budgetary systems.

at.a .

62

Comparing MultIpurpiose Approaches

Like so many first impressions, the formal distinctionsbetween incremental and formula funding are in manyrespects deceptive. Because they can be easily distinguished,

'the two approaches are often treated as alternatives havinglittle or no common ground. Although conventional, thisview perpetuates a distinction without substantive differ-ence. Both approaches, in fact, have much in-common. Asidefrom the necessary requirement that they both provide theframework necessary for calculating budget requejts, incre-mental and formula approackes are similar in four otherrespects.

1. The factors used in determining the size of the incre-.ment are the same as those that directly or indirectlyinfluence most formulas. These faitors include thenumber of students, the price of resources, and effi-ciency ratios (the relationship between the lett& of'activity orservice provided and the resources utilisied).As a Consequence, the same institutional incentivesobtain in either case: enroll more students, demonstratethat resource prices are higher (In the case of tilities)or too km, (in, the case of faculty salaries), gill arguethat efficiency impinges on quality or otherpurposes.

t.2. Both approaches can accommodate very, erentlevels of detail. They can function at a very .level, where, for example, an increment is tedas a flat percentage of the base or where 4 fobased on dollars per Frs student. Howevet both beconstructed so that they require an inordinatelygregate level of detail. -

3. Regardless of how the 'calculations come out, n thenapproach can force the state to allocate re rtesit doesn't have. The two budgetary: approaches erelyrequire the state to implement redu in entways. In the case of the incremental statemakes the increment smeller Or actualtiOns. With formula apprtischea, the state typi

55

S

If resorts to funding institutions at a percent ige of theformula. , .

4. Neither approach to multipurpose funding represents,a particularly good framework for accountability.Although designed to provide institutions with thecore funding necesikry- to achieve multiple purposes,neither bud approach is able to =tutor wh ertkese adequately achieved. Whateverattention . to aiiountability becomes focusedon access and cy, often to the exclusion or detrPwent of other purposes.

This isnot to say' that incremental and foimulaproachesdo =4 differ, but to suggest that their differences liein areas not often rgtoznized. The truly%important distinc-tions become apparels hen we Consider not how budgetary -calculations are made but how eaCh approach functions inan Organizational ,and- political- context.

The formula approach makes ground rules explicit. Italso removes umfertainty by allowingbothatate and institu-tional administrators to determine what-the budget might belike tiven certain future conditions. In this sense, formulasserve as a "conicact" between state -government and post-'

secOndary institutimis. However, the prinia%Iriefit may goto state institutions themselves.. = serve to stabilizethe distribution of resources am. individual campuses.Any change in proportional distribution must derive fromchanges in readily understood variablesrather than from thelobbying power of fa ?ored institutions. This has the effect ofconfining politica to the design stage. As long as the formula-stays intact calculations remain a technical exercise.Although viewed positively by administrators, limit-ing politics can also remove rep* coieration of statepriorities from the budget process.

Incremental budgeting. has its own way of reducing '-

uncertainty. In all but the most dire circumstances, the baselevel of f is not threatened. Uncertainty is confined tothe of the 64 J 1 " and the ratiOnale for it. Once impie-mented, formUlas become rigid structures; adding a new-variable requires, in -effect, a renegotiation of the entire

1

64

contract. n this regard, incremental budgeting is much moreflexible. A wide variety of state purposes can be reflected inthe rationale for the larger increment. This makes the incre- -

mental approach more susceptible* politics but also moreresponsive to changes in state prio&es.

The Single-Purpose Component

Although states allocate the vast majority of theirsupport for higher education through themultipurpose corn-ponent of the budget, a significant portion of state funding isdetermined apart from the core or outside the formula. Thespecial-purpose component enablesstates to pursue specificobjectives and meet high-priority needs. That these twocomponents have . very different roles is, hosNeve4 rarelyclear in the minds of most administraiers. Instead of inpport-

componen oen as a convenient way of sidesteppinging \ important yeftae.#ted objectives, the special-purposet ftudgetary restrictions, (food rationales can be preserated byhe ,state and instituu alike lot either increasing or

decreasing the roled,apecial funding. However, its judiciousand appropriate use requires that all partiesunderstand whatspecial-purpose approaches are available and reangnize theirstrengths and weaknesses. We will consider three suchapproaches.

Base-Plus-Increment pkoiichesWidely used in supp rt of multipurpose functions, the .

fiase-plus-increment approach can also be used in a single-purpose context. The incremental approach is particularlysuitable when an activity is ongoing and when separate

9 funding for that activity serves to differentiate die mission ofthe institution performing that function. Such allocationstypically support a single unit or prograin within one-institu-tion. For example, it is likely that one partimiler universitycampus manages and operates the ma's educational televi-

' Sion system on behalf of the entire state sys)em. The teachinghospital at the medical, campus obviously has special.needs

:

65

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This approach to siecial-purpose funding severaladvantages. The state is able to be quite specific about whichpurposes and objectives it wishes to pursue. In turn, pro-gram directors at institutions are clearly aware of the goalsthat they must meet. Moreover, this approach provides aclear separation between ongoing in Itipurpose funding andshort-term special-purpose funding. Recipients of these

,grants are not likely to mistake ca funds as an'integral part of their operating budget.

If it is well designed, the catego approgh alsoprovides a straightforward and eff framework foraccountability. Although accountability ; per se are notan inherent part of this allocation process, I the statementof purpose for the categorical. progam acid e evaluationcriteria used to select winning proposals 3- clearexpectations and goali. In essence, this k foraccountability derives directly from the design th alloca-tion process: The project is expected to accomplish w t waspromised in the pr 7L In many instances, actual t-ability data-(post facto reporting on the accom = - -4 is ofthe project) are required as a condition of the aHowever, such data do not usually enter directly into theallocation process. -

_Formula Approaches

4

Formula funding can play a significant role in thespecial-purpose a& well as the multipurpose component of- -the budget. In many respects, fOrmulas are ideally suited topromote specific and important objectives. They can providepositive ,incentives for achieving these prior,ities andrianoffer accountability as an integral component. For example,if the state places high priority on increasing trained man.power in specific occupational fields, it may turn to capita-fion formulas that allocdte funds on the basis of the numberof degrees granted in those areas. Not only are institutionsrewarded for respondjmit_to state priorities, accountabilitydata (in this case, the number of degrees granted) are anecessary and integral factor in calculating the allocation.

Such arrangements fit the kletd criteria of special-purposefunding.. they are designed to allocate resourcts in a way thatdirectly reflects specific, state priorities and that includesappropriate mechanisms for accountability.

Although_states h&c Made little use of capitation grantsto promote education and training in certain occupationalfields, they have employed , the method to compensateprivate colleges for their educational efforts. New Yorkstate's Bundy Aid Program is a promMent example of thisarrangetttent. This program is designed more as a, supportmechanism for private institutions than .as a program ,speciflcallY intended to develop trained viorkers or aneducated citizenry. Nevertheless, implementing the Bundyformula translates this objective iiitb on inceintive system forinstitutions to graduate students., In this .case, the account- .ability mechanism is again an*twirl part of the allocation.

While formulas Seem particularly well suited to manysingle-purpose applications, it is surprising how fewexempt, can be found. That these tippliaationt go Wife,corsled is a plausible hot unlikely explanation. Even stalksthat use formulas for. their midtipurpme component often .

turn to base - plus - increment approaches for specific .pro--grams and activities. This situation reflects all outlook s's°common in multipurPcee funding: States have adequacrastheir primary objective. they wish to provide sufficient--funds' that will allow institutioni to airy on certainprograins or %perste 'certain facilities. This emphasis onmeans and the consequent disregard for ends or objectivesbecome particularly counterproductive irmapecial-purpose 1

funding, where outcbmes are the self-evidenf.'reason forallocations.

Assessing Strengths and Weaknessesa ,

As should be evident from our discussion, there is nonecessarily right way to alloc.ati state finds to institutions ofhigher, educa0p( 'Different apiroaChes have differentcheraCteristits. If one %assess adexpLiaWy tirefr strengths

and weakti , one must evaluate approirchei With respect

4.-

to sound budgeting principles and the organizational and tpolitical context in which state funding operates. The follow-ing summarizes the various approacheswe have cliscussedinlight of the "concepts rand principles developed in theprevious chapter: 1

A. T e Multipurpose Component. Incremental approaches

Allow" flexilatOpin determining the rationale. for.7 increments

-AP .:Maintain integrity of the ,

Dci not include acCountability factorsas an integral .

componentRetain,some uncertainty frOm year year

2:Formula aipioachesMake dedsion factors-explicit' . Reduce uncertain4CInhibit flexibility, not easily adapted to newcircumstancesInclude few aCcountattility lactons as in feiralcomponents;. tend to #ew focus of account**

B. The Sihgle-Purpose CompopentI. Incremental approaCheir . .

Provide appropriate funding meihanisrhs forongoing single-purpose activitiesAllow flexibility'Do not specify decision criteria; yearly .budgetary

. , chan&es remain uncertainDo't make accountability factors explicit; createletendency fo focus oienlaiicial rather than polar-manceaSpects of a9cOuntability

2..'aitegoriCal or competitive approaches_M4itzpbjcCtives'to be pursued explicit

.0 Provide an inherent Trainewprk for accoentAbility,although perforriasnce data' are not incorporated

tr inteallocation process ; .

; .:10 Involve considerable judgment in selecting, "winners"; require careful attention to maintain-

ing the integrity of the. nsystiln-y

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fav6r." Higher' ed responde4 appropriately:go thetchallengerrit faced decades ago. Those "truths" have notbeen proven wrong; the passage of time; however, hasrendered them inappropriate fdr today Our error-lies u not_adapting to change: _SeVetal `basic assumptions underlyingcustomary approaches to resource allouttiOn are no longervalid in our new Circlintstanceit Same states are only nowchallenging thoSe assumptiOnsr others. fiave dlicarded theTis tfidy search Or tenable alternatiyes: : -1.7--

Perhaps thi most impOitant of 'the tratlitiOnal assump-Was was that state revenues would steadily increase. Thus,,successive generations of bathsaiintinistrators and legislatorsexpected that higher 'nation continue .to get itssharefof an ever-larger pit. Tame corollafies folio from thisassumption. tach in its own way bas contributed to a: legacy,'of higher-education financing that now finds, in- the 1980s, ,:rainy unwilling heirs: ) .

The first of these corollaries is that lest yeari allo'cationIs the absolute minimum to be expected from the 'state thisyear. In other wbrds, once 'establishedthe base allocationbeconies inviolable. This has been true whethir the base ;vas!calculated by an incremental or fprmulaapproach. When thenumber of students has decteased to the point thlit theformula has generated fewer *Oars than in the previousyear, institutions have generally found ways to avoid actualreductions in state appropriations. Recent resiarch indicatesthat states place priority on maintaining funding floors 'under .

institutions that are losing students in preference to increas-ing funding 'levels to those that continue to grow (Folger1982).

The second corollary is that even if an institution is notexperiencing growth, it can expect increases in spiiropria-lions to offset the effects of inflation. Uhdeethe incrementalapproach, administrators could always argue for an increasedue to the higher cost of goods find services. Under theformula approach, they. could likewise argue that coeffi-dents had to beAdjusted upward to reflect the consequencesof inflation.

The third coil:Mary contributing to current resource,allocation practices concerns enibllments. If more students

enrolled at an institution, the state was expected to,provideadditional funds to latibsidise their education. A variety ofelaborate procedures have been devised to determine thesize of this subsidy. TheSe procedures have in common onebasic feature: they are based on the economic concept ofaverage costs. In other words,the subsidy for each additionalstudent equals the average cost of educating similar studentswith commonalities such as major, level, and degree of full-time equivalency. Again, this assumption has prevailedregardless of budgetary approach.l&incremental funding,more students haye traditionally riteliffit a larger increment.In formula funding, the most important dependenvariablein the equation ithe number of students) was increased,jhereby increasing the independent variables ithe dollarsrequested).

A generation ago, higher education, was a growth in-dustry. Managing growth is not only easier and safer than

_managing decline, it is also something most higher-educationadministrators learned bow to do through .Years of exile-

. rience. If a mistake in judgment or an error in resourceallocation was made, it could be rectified the next year usingadditional funds. Moreover, 'in periods of growth; theaverage cost of admitting an additional student is greaterthan the marginal cost. Since institutions ivere receivingfunds 'at an average-cost rate and expending them at amarginal-cost rate, they acquired a pool of discretionaryresources. Schools could tap those funds to maintain qualityand accommodate irowth simultaneously. gxpenditureson new program's, new equipment, and more competitivefaculty salaries were not.seen as mutually exclusive'options,

These assumptions are far more than a contagion that in-fected the resource-allotation process, or vague notions thatinfoimed its context. They have been woven into the veryfabric of the funding process. The incremental approachutilizes, as a fundamental tenet, the "base-as-floor" assump-tion, on which rest all rationales for larger increments.Form even further. Their structure is such that theseassum ions re bUilt into the calculation algorithms them-

, selves. sh higher education is faced with the legacyof a gra th ntality. Through experienCe and habit, this

s

1 73

Ut

MB

mentality has been Instilled in , educators, aclminisArators,and legislators alike. In turn, It has 'been embodied in. theprocedures and mechanisms they-utilize to determine levelsof ,suppoit for state,colleps and universities.

Fundamental changes have come to the budgetary tradi-tion upheld by these assumptions. Higher-education institu-tions and state governments are both still struggling to niakefiscal sense of their new situation. Chisiging enrollmentpatterns are among the most iMportant of the new realitiesfacing higher eduCation.- A new generation of students hasentered the academy.. Their numbers have deci*d, theirdemands have shifted, and their chlraiteristics havechanged. Most readers know these fa.cts sufficiently wellthat the entire litany need not be repeated. The point Mostimportant for us to recall is that growth .in student .enroll-ments has ceased at many institutions and is exhibitingactual, even substantial, decline in some. In those caseswhere the actual number of .studenta served has not de-clined, as greater proportion are attending., part-time ratherthan ftill-time. In .short, the engihe digit hat driven much ofthe resource-allocatioti process for more than 20 years hasslipped into neutral and, on 'occasion, even into reverse.

The effect of declining euroihnents on state anocationshas been both substantial and widespread. In many in-stances, decline in enrollments has acceded the rate atwhich formula coefficienfs !such as allocations per student);have increased. This has resulted, in a net decrease in thelevel of funds generated through the formula. In the case ofincremental approaches, the most palatable argumentadministrators could offer for a larger increment has disap-

peared. From a managerial perspective, the absence ofgrowth harbors a further problem: the 4limination of discre-tionaW resources generated by the difference betweenaverage and marginal costs. The economic margin of safety isbeing shaved finer and finer. For most stags and educationalinstitutions, the change 1k not a shortterni abermti Withdeclining enrollments' being thei new, relatively -termnorm, titling out the storuLls no longer a viable option.

A second Major..perturbation affecting the resouirce-aliocation process has been inflation. It has sapped the

74

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MM.

67qt.

\ purchasing power of institutions faster than transfusions offunds from the state treasury could replenlah it. Not onlyhave prices increased rapidly, some of the largest increaseshave occurred in such peripheral areas as utility costs. Asa result, faculty salaries have not kept pace. This has en-dangered the most important, of higher education's criticalresources. Many of the gains -made in this area, the early1970s have been lost. Neither formula factors :; inflationallowances in incremental budgets has been sufficiently

. kirge to allow institutions to maintain, let alone enhance,faculty quality and, in turn, educational effectiveness.

Experience in recent years suggests, however, that ram-pant inflation is not necessarily permanent/lts destructiveforce has been blunted, at least temporarily. Nevertheless,the timing of this major inflationary, binge exacerbatedenrollment-related Problems. If 'nothing else, our recent'experience with long-term inflation and the inability of statesto compensate for. it dispelled any notion that inflation waspotentially a good thing. In the short run it served as a con-venient excuse to boost formula coefficients 2 expand the .

base. Nevetheless, increases in revenue not keepabreast with expenditures1 In time it became clear that infla-tion made everyone fa loon.

The third and .pertiaps most severe shock to the budget-ary system has come as a result of general economic declinein many states. The capacity of states to fund programs andprovide services at customary levels has been severely- cur-tailed. State revenues have not expanded at a pace equivalentto the,rate of inflation. Consequently, the purchasing powerof states, like that of institutions, has diminished. This hasworked a particular hardship on higher diucettion. Unlikeother major recipients of state funds, state colleges andniversities are not protected by tutes that prescribe

tion levels. For example, 4 = and secondaryhools in many states have aid ormulas embodied in

statute. 'lb change the funding- rate (the allocation per, student), the law must be changed. Amending halation of

this kind is always harder than changing a line in a majorappropriations bill, the only place where higher-educationfunding is typically specified. In truth, higher-education is

75

.1/

often the major element of dbiltiiiretibnary or controllableportion of a. state's budget. Because so many other cam-ponents are not controllable, such as pensiOnlvyments,welfare, and elementary and secondary schools, an inordi-nate burden 'fel& onVie' education during hard times. ,

With many states experiencing revenue constrain?,institu ttals have found growth to have Ilecome4akubstantialburden. A generation ago, 'incentives were provided to in-crease enrollments and thereby increase revenues. Sdch a 'v. -strategy, however, can now easily work to an institution'sdisadvantage. Quite simplyrka state does not have thedollars,. it cannot distribute th -.`:--The argument that morestudents require a larger subsidy carries little weight in thefae of 'these obvious constraints. Under such circuni-stances, growth not only results in no additional funding, itspteads previous allocations over a larger number ofstudents. .

If these Shortfalls are not compensated for, inadequatefaculty salaries larger classes, reduCed library acquisitions,and poorly' maintained equipment ,and facilities are amongthe many "efficiencies" forced upon state instituturn, these measures are trEmslaterbinto , ; ed valuesfor formula coefficients or into depressed base levels fromwhich increments are determined. Limited revenue is oftenjudged to be a short-term problem. However, in the manner

we have just described, these constraints can become em-bedded in various mechanisms and procedures for resourcealloCation. The consequences can be both long-term andwidespread. .

Faced with these new realities, institutions and stategovernments alike have found little remedy in habitual orcustomary responses; The clear and pressing heed fmkano-vative approaches to resource allocation has prompted Rimestates to undertake creative initiatives. Some of thesemeasures apply to the multipurpose component of thebudget; others aredirected at special purposes. Some leave

state purposes intact but change .the Ives or algo-rithms for determining allocations. For le, Some states

are considering a shift from average to marginal cost as abasis for calculating the core budget. Other approaches

76

reflect a change in purposeaddition or deletion ofother approaches maypurpose and special-puevideit, these efforts sue

t may lead, for example, to the-purpose components. Still

the balance between general-components. As will becomewhere they adhere to sound

7.. ill

budgetary practice, reflect close links between planning andaccountability,. and embody clearly articulated- statePuffs

f.

The Multipurpose Component

Initial Reactions to Change

When state appropriations to higher education must beseverely curtailed, government and institutional adminis-trators focus their inunediOe'attention 'on the multipurposecomponent. The size of this component is the most obviousbut perhaps not thimbst important reason. More to the pointis that programs and activities funded through epeciaigpurpose allocations usually have clearly defined andpolitically active constituencies. For this reason, single-purpose components are difficult to Attack. On the otherhand, the constituencies for the multipurpose componentare more diverse.' The focus of their is diffuse, andthey tend not to become politically m . n

This downward pressure on the funding base can quicklybe carried to an.extreme. Institufions may find it impossibleto achieve simultaneously tlake manyestate priorities they areexpected to meet or have historically met. Schools canaccommodate funding restrictions to some degree by ixn-profing institutional productivity or efficiency. Thisdepends, however, on the degree of organizational slackpresent at the outset. Once this available slack has beenwrung out of the system, however, all concerned mustrealize that certain objectives and priorities cannot be accom-plished .with the resources available. In the absencl ofincreased funding, levels of expeetatroiMay have to be re-duced in a variety of areas. For example, certain manpowerrequirements or ,priorities may have to be scaled down.

77

Enrollment limits maybe necessary on certain prOgrams,such as engineering, to keep demand for the program. within'the bounds of an institution's ability to that despond.

A state may even Conclude that its - ' es of institu,tional viability, quality, and access *Imo, : W, congruent.If so, there remain alternatives. When faced with this reality,

liemsessee cOniciou-aly decided to spread ltvwailableresources among fewer students. t resolved to lbrego theobjectives of student access and choice to stain theviability and quality of its programs and institutions. FewMates, however, take this Particular cinktse: They generally.prefer to nadritain the' access objective and not expendresources- on- improving, renewing, and sustaining institu-tional resources.

When chant* to.the Multipurpose location become41ecessar*, the first reaction, then, is. typically to .41itstwhatever approach is being used InOrder to make the serverscomeout right. Rather than implement fundamental changes,states generally make minor alterati 6 1.1*: to current budgetarypractice. Acros&the-board rediftions. " y be instituted. Ifformulai are _employed, inftitutiona are fund at somepercentage of the formula. 1r.

If the relationship between the state and its tionalinstitutions reflects the state-agency mciciel, red 0... -.- may

be instituted at a more operational level. These can includehiring and salary freezes, limitation& on the use of con-sultants, restrictions on out-of-state travel, and deferredmaintenance oche physical plant. ,Other reductions' can,significantly affect an institution's educational effectiveness.Faculty salaries may not be increased at a pace sufficiept tokeep them competitive.. Likewise, staffing patterns can fallinto disarray, with vacated positions terminated and neededadditions to faculty fined or foregone completely.Expenditures on books and periodicals are often reduceddisproportionately.

Unfortunately, the decision to curtail investment in aninstitution's critical resources-is usually made by default.Because investing in the future &es not elicit Vocal txxestitu-

ent support, institutions bow to more immediate pressures.When legislators and administrators lack the determination

78

to find alternative and creative approaches, reskucing rong-tam investment in tritieid resources emerges as the path of.least resistance. Its danger lies. in its very convenience.Reductions that are the easiest to make dre the ones thatleave the institution least able- to carry out its mission or toalter or sharpen its long-term goals.

- . if changes in the environment - ,_ any-----...7, -irnumber of cost-cutting measures may app ..riate..Afta

, all, short-terni aberrations in. enrollments : n ,* revenuesdo occur. However, if there are fimdamen chimes inkey bOdgetary foe** thep thesi "ad 1.1 II ft .0 1 4.: :Sha,OUldw beviewed as stop-gap solutions, a means for

. Itinger-terfir solutions are sought. Many sta ,,, however,misuse these convenient_emergency measures or extendedperiods

.

periods of time. Washington and Oregon, for --..-, ii Pie; 'both

at .one time they were funded at about 70reduced support for their institutions to the. ,:ittswofherethe

formula. This depressed level of hurtling :... . a significant'shift in underlying conditions .withdut an a -..mpanyinishift in state purposes and expectations or budgetaryphilosophy and funding mechanisms.

gometimes compromises must be struck t balanceexpectations and means. Although uninviting, one approachinvolves limiting demand for educational services. Amongthe alternatives suggested by William Pickens (forthcoming)are the following:

1. Raising admissions requirements for public postsecon-dary institutions, thereby reducing the pool of eligibleparticipants.

2. Ruling certain programs as ineligible for state subsidy,thereby excluding nondegree credit hours from thecalculation base. This, in essence, declares an area ofinstruction to be no longer a state priority.

3. Changing or reducing the mission and quidity of stateinstitutions.

Longer-term solutions may be more difficult achieve,butare likely to be far more rewarding. Although often

avoided, one obvious solution is to establish new relation-ships between institutional work loads and levels of funding.

ti79

L.

.The close mationship between teaching loads and state

appsopriatians has .a long 'history. Whether a state usesformula or incremental methods for deterMining multiput-pose funding, incased ching loads brought on by largerenrollments have always been a Major rationale .for seekingand obtaining increased state support. As noted earlier, thislendt primacy to the access, objective. Moreover, thisassumes that if access is funded, other objectiv4 supportedby multipurpose funding will be accomplished throughactivities that will result in joint supply ;

The direct link between teaching loads-and funding hasbeen. cans tnkied Ound the fconomic,concept of average .

7111104:09t.-11; situtitionsyheretnrolhnenti-and teaching loads con-tinued to grow, -thia.averagovett relationship resulted -in a

,budget request that went increasingly beyond the means of- state. In iliate casee where' enrollMents bi rd or

declined, the assumptions) faired in IF diff4ret way:Statefunding-that proceeded on the basis of the aeCesenbjectilM-proved insufficient with repid to oditiO'oblictilies. Iu parOcu;

institutional quality a evenyid:nifty are not necestarillaccomplished through t supply when instructional funding stabilizes or declines.

As a result of these difficulties, many states have beenforced to reexamine fundamental Premises. Se, verai aretaking steps to disengage. funding levels from Strict lineardependence on enrollments. These approaches differ in thedegiee of change they propose, their conceptual framework,their level of sophistication, and the degree towhich they ex-plicitly recognize state priorities other than student access.

Bufferin-rg and Decoupling

One option exercised by many states is to plate con-straints on traditional approaches instead ofalternatives that break significantlt with the past. This hasthe effect of loosening, not dissolving, the tie between enroll-ment levels and allocations. Allen f1980) and others havelabeled this approach as a "buffering" arrangement It servesto insulate state allocations frok the vagaries of enrollmentshifts. In circumstances where enrollments are declining,'

80

FIGURE 7

State Allocations Linkeel to a MUltlyear Average of Enrollmerits

some stater, such as Minnesota 'and Kentutky, have used amultiyear average of enrollments to calculate funding levels,This builds a lag into the funding decline, therebypreventingallocations from dropping as fast as-they would otherwise(see figure 7). Administrators are allowed time to adjust ta-the inevitable. In no way, however, does' this change the *fundamental apppach to funding. It does not provide asafety net for the institution no? does it broaden the array ofstate objectives considered in the funding process.

Other states have implemented a variation on thisapproach, whereby funding levels can 'decline only a pre-determined maxinitim per year. This policy holds even ifdeclines in enrollment are precipitous and would haveresulted in larger funding cuts under customary calculationprocedures. lennessee, for example, employs a corridor orthreshold approkh. As Paul Brinkman explains, "Any enrollment change that is no larger than plus or minus 2 percent.elicits no change at all is funding; and percent is subtracted,from any larger change before the fu g request is madefor example, a 6 percent change is tr ted as if it were only

8I

74

FunAling Ceilings During PerlOds of Enrollment Growth

4 percent). fh Florida, the amount that the funding level theychinge, in any given year is restricted to a certain range irre-spective of what happens to enrollment" (1984, p. 30). Weshcaild note that this approaCh has the effect of buying timebut does not fundamt;ntally dungy the concepts on whichfunding mechanisms pre based.

Under circumstances of enrollment grqwth, states maywish to 'impose ceilings and ihereby limit their fundingliability. For example, states that face constitutional orstatutory limits on their expenditures can -determine thatallocitions to higher education may not exceed a certainlimit, even if enrollments expand. This has the effect of con-trolling the portion that higher edication receives from thestate pie. (See figure 8.) ---

Aware that enrollment declin were forecast fox the/ 1980s and 1990s, Minnesota impl ted an "enrollment

bulge policy" in 1977. Under this arrangement, the statefunds its enrollmenttat the 1977 level and does not provickfunding for enrollintnts that exceed that level. By norfunding growth, the state reasons that it will not be necessary

82

ti

. .

.FIGURE 9

Min'nesItait; Eihrooment Bulge Policy .

19774

#

.to Hake such a r a t t i c. c u t s w h a t d e c l i n o c c u r s f s e e f i g u r e 91:

This approach, however, will npt mitigate the. impact ofdecline' should enrollments fall below 1 levels. Presum-

. 'ably, an alternative teals woutd" have to invoked at that '. time. Nevertheless, Minnesotans iitiative\ is cant.

It is one of a handful of states taking pieventive andpursuing a proactive rather ' Merely reactive financialPulicY,

Decoupling represpnts a sof insulating funding leveli frombuffering serves to: 1 .. thetween enrollments, and It;

ewhat different ,way oft changes. While

to connection be-piing Seeks to limit

tbte amount of an.histitution:s allocati?9, that is governed by°enrollment. This Is accomplished by altering the -strOcttueof the formula or' other reaous:ce4alkwaticr gUidellnes e9 :that a relatively snialler mopprtion of fundingis driven by

.ego l *eat-related factors. For library fwiding-canOitiitifited *the number of

of, students served. LtiewiPPTed, inflintratheri-

'4.: ill

IF II

1}41404.-opiration, of ,theiphxsIcal plant can Joe related to

1*

4.

S'

76

e

campus size rather than student population. In other words;dccoupling affords institutions the opPortunity to support.-centralized services in a way that is not direCtly affetted byyearly enrollment fluctuations. However; such arrange-

\ menu make formula guidelines more complex atlfi can pushgovttnumce relatipnships, toward the state-agency model.

Although They. differ in parliculars*, buffering .anddecoupling are both designed tgo lin* state expenditures

- control the effects of enrollment C;hange. They &little,if anything, to reflect state purposes other than balancingthe budget. As a result, they are at best shqt-term devices.They represent rational ways of making adjusts to oldapproaches, nobfutulamentally new' initiatives attuned tochanging demographic and economic realities.

Marginal Costing

A way of responding tai the 'new realities faCinghigikr flail finance fives philosophic approaches In-tactut employs a fundamentally different set of ecoaomicconcepts. undXig remains tied to enrollment levels. At aphilosophic or policy objective, access continues to dominate,all other priorities. As before, the state expects to accomplishits other purposes witlah'the ftinding levels establithed insupport of acc =,=s. However, the economic concept utilized inthis approach 11 the marginal-Cost method rather than thehistorically popular average-costmethod. According to theaverage-cost method, additional students will' each 'cost theinstitution an additional "average" 'amount to educate. By .utilizing marginal-cost concepts, the state or institution con-sider% the "extra' costs associated with adding an "extra"student (or the increment of cost savings associated withdecreasing the student lxidy by one).

Conventional wisdom holds that educational institutionsdo., have some econ6mies- of scale. As institutions grow,the marginal cost tends to be less than the average cost his-)

sloric.ally used to calcplate resource allOcations. Now thatenrollmehth are in decline, many educators and adminis-trators are quTtioningothe appropriateness of average-cos!appropriations. As they enrall fewer students, institutions

4

a 4 I)

will.find that the actual, marginal savings will kr lower thanthe estimated savings calculated on the bags of averagecosts. AAtates reduce funding at an average -cost rate,. these'institutions may exptrience financial stress;- Based on a variety of simulations, Monical and Schoe-ntwker (1980, pi 79) lave found that:

1.Marginal-costing formulas are 'sensitive to. enrollmentChange,s, but not as sensitive as linear funding forthulas.

2. Under all marginrIlsimulations, fewer resources will beadded and fewer *reduced than with linear funding. Asenrollnkent increases, resources will be added at amarginal rare. As enrollment decreases, they will be

. withdrawn at a marginal rate. The net effect is to"flatten" the lesource.requiretrient curie during a w:

ad of enrollment fluctuation.""Nith respect to the base year, -Marginal funding will

b?ing in more totaldoillars and lower dollars-per studentin periods of enrollment growth, and fewer total dollarsand higher dollars per student in periods oi.enrollinentdecline. Thereon be an overll lowering of appropria,tions, evenithough the appropriations per student willbe undergoingjt "real" increase over the.base.

On a conceptual level, tnargihal costing is a `sourerapproach because it replicates more closely the actuarcpstbehavior of institutions, Practically spealthig, marginalcosting has desirable characteristics given. economic anddemographiC conditions in many states. When 'enrollmentsincrease, requiretnents for state funds go up less than theywould otherwise; jvhen enrollments decrease, appropriationsare decreased to a lesser degree. It is this 14ter characteristicthat is particularly attractive to-educational adMiniistrators.Unde;this arrangement, when enrollments decline, fundingik less likely todecrease to a pointethat threateissinstitutiorralquality or viability. ,As Richard Whin and Paul Brinkmanpoint out: "Funding 90 pricing sthemes based in marginal-coiling principles, can directly address the. weakness oftechniqUes that are based' on aveiaggi costs. 0By focusingdirectly oh the cost implications a changing enrollment

#,

-. -

86 /

:77

I 4,

leyels, marginal costing allows the state or federal govern--ment and the institutton- to base their actions on estimatesof actual 5;ostAbehavfor rather than on a static calcidationof costs at a particular enrollment level that is no longerapplicable" (1983, p. 4).

In spite of several attractive features, marginal-costingtechniques have not bden widely introducer' into theresource-allocation process. Only a few states have adoptedthis approach in. any forinal sense. Several problems, both

-technical and political; stand in the way of broader impie-tn,entation. First, marginal costs are difficult to calculate(AU and Brinkman 1983). oi the 4ariOus nieans availableto calculate- marginal costs, only the statistical method isreally' feasible. This approach requires data from a largenumber of institutions and yields a cost curve for 'a set ofinstitutions rather tKir for individual schools. Sincemarrosts for numefmn individual institutions have not

. been calculated, a body of conventional wisdom has yet toemerge about reasonable ancfrealistic mkginal costs-for dif-ferent kinds of institutions at different enrollment levels.Further compilations Old becatise higher education lacks aknown or standar51 set of production : *II ; Pa.

As an, aside, we might note that h by PaulBrjnknin (1981) and J. Michael Mullen (1981) indicates thatmarginal -coat curves for colleges and universities do notfollow the U- ped curve predicted by theory. In particular,they have fou t marginakopt curves are essentially flatover a wide !lament range after decreasing as expected attlie low end of student enrollments' (see figure 10). The breakpoint (N has been found to vary by type Of institution. Oncepast,.bowe4er,' marginal essentially.al and average costs appear essentiallthe Ape aver an enrollnitnit range applicable to many institu-tions. As an explanation, researchers suggest that economiesof wait are overcome at matt institutions by dis' econcunies ofcimplexity (G.W.. McLaughlin, J.R. Montgomery,.Smith, and L:W. Broomall 1980).

There are. also political problems associated- withmarginal costing: The approach is noVonly complicated andsubject tb potential errt)rs, ifdlsoresenfs information in `kmanner unfamiliar to many' legislators an administrators.

. ..

e

FIGURE 10

Marginal-Cost Curve Over a Wide Range of Enrollments

Cost/Student

Average Cost

MarginalCost

Enrollments

Legislators in particular have bought the coneept of averagecost,e that perhaps has been oversold to them for manyyears. They are well awareathat average costs rise morequickly than marginal costawhen enrollment;are incand that marginal costs decrease more slowly than averagecosts when enrollments are down. Henserthey express skep-ticism, if not cynicism, about shifting to marginalcosts at justthe e it servei institutional interests. Moreover, pastp tice,hits led lefislators to expect comparative average-cost data for each institution. The methodological problenisastiodated with calculating marginal costs makedifficult to maintain this tradition and provide fivedata for various, state institutions. At the very it willtake time to establish a level of face validity for marginalcoseng corresponding -to Alit still enjoyed by average-castapproaches.

Marginal costing is arelatiVely new approach toxesofirce'allocation in higher education. Empirical data al;out theactiuil.behaviof of margin'id-cosi curves in hi:ftvidual insRtu-tions remains scarce. For these reasons, the approach takenby Indiana in developing their allocation factors seems most'reasonable. Indiana remained faithful to the concept of

'

8 7

^f

80

marginal costing, but determined which factors should beapplied not through empirical analysis but through con-sensus and negotiation. In essence, they negotiated a newfunding contract between, institutions and the state. Thefactors utilized by Indiana in their markhutkostirtg approach

lire presented in the appendix to this volume. Only time willallow a practical assessment of the strength and weaknessesof the. Indiana exiwriment:

Fixed and Variable Costs

A third way, of risponding to changing economic andderriographic conditions involves a new philosopllit stance

- regarding both state objectives and the economic conceptsused to determine allocation levels. This third approach nolonger adheres to the gssumptkit that if the, access objective,can be funded, other pu can beaccomplished thrbughjoint, roduZtion. Rath it oplicitly- builds one furtherobjective into. the tion scheme: maintaining Anstitu-tional q ty. In other words, it =opiates thenecessity of developing and maiotaiiiing a care institutional,capacity to deliver services in accordance with the school's

. mission. The traditional objective of public access to highereducation, can be" achieved jointly up to a certain, point.Beyond this point, hoWever, the accessiobjeetive hag to befunded in addifion to alloaations directed: toward inatitu-tional capacity. In short, this approach' establishes, s anequal, if not predominant concern, the investment aspects&

- state responsibility to public higher education. .

The economic concept underlying this approach is thatof fixed and variable costs. yigurs 11 illustrates 40113C of theimportant ideas asgociated with this approach. The plateausindicate the core' costs"' of operating the institution sundertwo different scales of operation or potentially. diffeientinstitutional missions. The areas marked "A'represent theadditional costs necessary to maintain investment in theinstitution over and aboveqwhat would have been ealciaatedon a purely eprollment-ddven basis. The usefulness of fixedand variable, costs follows from several propositioni. First,

880

, r

a

FIGURE I I

Fixed and amble Costs

If

there are certain institutional capacity that pint be put inplace if one is to have an institution. Among these capacitiesare a. critic* -mass of faculty, an istrative core, anda certain minimiim cOmplenient of academic and studentsupport fpnctions..Second, this core component can differdepending on the 'mission. of the institution. A broaderinstitutional miasion requires a larger core capatity.

Once thi core capacity (the fixed costP0f the institutionis put in place, enrollnients can expand (o the point wherethe average fixercost pet student equal& the 'average totalcost per student. This point is ?narked ',1X" fignre.11. Onceenrollgaents expand beyond "X," "costs escalate at a ratedependent on enrollment levels. These can be calculated onthe basis of either1/4average or marginal costs.

This approach requires that the questfon of institutfonalviabiliti and mission be. addressed head on. When enroll-

. ments decline into the regfori fiesignated "I," administratorsd legislators will have to de cte whether to change an in's*tion's scale or mission. If enrollthents decline further illto

the regiba labeled "c," `they must address the iontinged

.

81

V

89r

- ,

survival of that institution. If the school is to remain open,Crattd costs must be met, .even though the average Met perstudent (the traditional relativemeasure) will be higher thrin

at similar institutions.States and institutions alike have little experience in

using fixed and variable costs as a method for calculatingallocations. Wisconsin developed a fixed- and variable-costapproach but didnot implement it.-Minnesota ha adoptedthe approach in those instances where enrollments have

- fallen below theimint where the critical mess of faculty and

-proArams could berstained usingpurelyearollment-drivenapproaches. Because of this insufficient track record, itisificult to forge aning'fike conseirsua regarding ivirayshould be included asfixed tots for different sizes and typesof institutions and *hat can appropriately .bri considered a

variable cost. 'Because discussion and ezperimentatibn con-tinue, it is too early to offer prescriptions Or even drawdefinite conclusions.

Given this state of affairs, the approach proposed inWisconsin seems sensible. The state integrated the conceptof fixed and Ngriable costs into their ,budgetary systemin a .more-or-less empirical fashion % Theraplitied a Set ofguidelines and conventions to ;state institutions as theywere Currently. operating. They did not stepEck to. reassess .

or restate eons for each of the state's institutions andthereby.stablisha leVel of core funding appropriate to-each

school. Rather, Wisconsin made : the un.derstandable, ifsomewhat misguided, assumption that institutions werecurrently, operating in accordance with tiesitible mit/slops.The state saW itstask as ascertaining what portion ofcurrentinstitutional operatiods should be declired as fixed costs and

'what shOuld be considered variable.. Wisconsin's experiment With fixed = ,(1 variable costs is

. 'ficant .because it explicitly recd zest' -statet.s reerpOn-

t-'lity to fund the "critical mass" required for 1. tions to

perform; their Ossions. Moreover, it recognizes that institu-

tions* with 4ifferent missions hake different-needs. Purists

might argue that Wisconsin's- inductive approach *takes too

much on faith. Current offerings do not necessarily refteck anp institution's appropriate or desirable naission. Pragmattits

90

can legitimately answer those arguments by noting that thiswas the only approach likely to work. Changing funding Aarrangements is traumatic enough without compoundinginherent ,problems by ''simulituteously reassessing' andchanging institutional mis!dons. Florid is One amongstates entertainingthe idea of using a dea.ductiVeinstitutikral design and resource" allocation. To date,however, none of these efforts brie come to fruition..

Although problems persist *implementing bUdgetariapproaches that utilize the concept of fixed and variablecosts, this course of action is perhaps, the,most coricephittilYsound of the three we have dismissed. It encourages stags toconsider &source allocation in terms of in,sdtutionaiqualityanrk viability, not merely aperation:Iii so doing, it explicitlyrecrtgnizes' key state &Irides in thelield of higher educationwhile Ainiultan y allowing Institutions greater, ,controlover day-to-day operations,

The Speli.11-laurpose Compronent

Initial Reactions to Change

Curtailed state appropriations. to higher education canaffect special-purpose funding 3n several ways. States mayrelegate categorical funding to a lower priority Or eliminate,altogether certain special- purposeTrograms. Bethicing thelevel of service provided through such programs represents aless drastic- step. Because special-purpose programs tend to.4,

attract politically Active supporters, such reductions maybe somewhat more difficult to institute than those in themultipurpope Component. Nevertheless, they araLa frequentresponse to rin a n a hard dines or to changed.circumstancesor priorities.

At the other extreme, states often add special- purposeprograms in periods of financial pressure suck ri,pid changeto compensate for reductions in multipurpose funding. Inother words, as the Core is reduced, priorities sl)ift to thesingle-purpose component. This shift can have ((economicadvantages to the state and can Aso serve to differentiate

91

a

institutidnarl Mama, By shifting funds from the multipur-pose Component at all state institutions to -single-purpose

. funding at a few institutions, the state can accomplish tacti-cal change .while also saving money.

Downward pressure on the multipurpose. componentcan rapidly lead to cOnditions in which institutional re-souries , suffer badly. In respopse,' some states have takensteps through special-purpose allocations to addresi the mostcritical problems. Nevertheless, this tactic puts back intospecial-purpose allocatio oaf a small portion of thatsqueezed out of the m 1 . component. For thisreason, the use of special ". during periods of

financial exigency is best as an emergency measurerather than as a wise long-term strategy.

Even in -times of stal?ility and growth, ihe balance .between Multipurpose and aPecial-purpose funding involvesImportant decisions and can beconle a. major negotiatingpoint. Stite government an4 posisecoiamy Institutions canesith have excellent reasons for increasing or decreaSing the

level of special-purpose funding. A.if ,a tactic to obtain andingoverall higher level of fun, institutions may seek to

move programs out of the base and int4 special-purpose cate-

gories. State government may initiate or endorse preciselythe same move, for very different reasons. Such a shift, foresample, allO' vs the stafts,increasecl accountability andcontrol over larger portions elf an institution's budget. On theother handr`both parties may argue that fewer items shouldbe included in the special-purpose category. The state'sPurpose in doing so would be to hold down appropriations;the institutional rationale would be to limit the degree andextent of in-depth control and accountability..

In responding to changing demographic, economic, andpolitical conditions, many states have placed greater impor-tance on single-purpose ,ipproachei for achieving key statepurposes. In many respects -this is laudable. State purposesand priorities are entering into the budgeting process in,amanner not accomplished through inultikUrpose allocations.Some specialyurpose approaches are new; others are notradically innovative but have assumed renewed signific*cein 6a period of severely constrained resources. Recalling

85

table l in chapter 2, we note that key state objectives include/the proiron of educational opportunity, the achievement aparticular student outcomes, the configurafion and quality ofprograms and institutional resources, and contributions tospecific constituents. Because the multipurpose componentof the budget typically provides for qiucational opportunity,our discussion of recent or innokative special-purposeapproaches will focus on the other three objectives.

Student Outcomes

In recent years, demands for documenting the value ofhigher, viucation have come from all sides. Legislators,administrators, faculty, and students increasingly ask .forways to measure vid improve educational effectiveness.Many states are interested in lending additional support tothose institutions that can deinonstrate excellent or, im-proved student outcomes.

Thnnessee's program or performance funding haselicited considerable interest The state recently devised a.special-purpose formula todp funds based on improve-ments in the' quality of instructs . programs and in studentoutcomes: This formula allows institutions to receive up to 5percent of their core funding basbd on their perfornce onfive dimensions. The state can award up to 20 points in eachof the following five areas:

1. Proportion of eligible academic programs accredited2. Performance of graduates on a measure of specialized

or major-field outcomes3. Performance of graduates on a measure of general-

ducation outcomes4. Evaluation of institutional programs and services by

enrolled students, recent .alumni, commurlity, andemployers

5. Peer evaluation of academic programs

Tennessee's performance-funding initiative illustrateshow a state can directly link objectives and accountabilitywith resource allocation. Funding mechkisms can be de-vised ,that promote state priorities in education without

93

#1,

o.

transforming colleges and universities into state agenciesand without violating the integrity of an indtitution's edu-

- cational mission. Moreover, these performance-fundingformulas operate at a level of generality: sufficient for jointproduction to continue. In other words, the state's objectivesdo not preclude other hinders from pursuing their owninterests.

Specific student outcomes can also be prompted throughstate incentives for certification. X widely used riuxhanismis the capitation grant, which funds institutions in statedamounts for each degree granted in a particular field. Thisapproach has the advantage of being easily audited andadapted to a wide variety of needs and circumstances. Somecapitation grant arrangements reward institutional contribu-lions bathe general level of education among state residents,

allocating funds on the basis of all degrees granted. Otherarrangements reward certification or degrees granted in cer-tain occupational fields. States cab also reward institutions,*hat, maintain or improve desirable student characteristics:Capitation grants, for example, can encourage recruithaent,

40104retention, and graduation of students having specific ethnicor sockiewnomic backgrounda.

Configuration and Quality of Prosrants and Resources

Primiry funding for instructional and related supportactivities should be accomplished through the multipurposecomponent.. Nevertheless, states may wish to promotecertain objectives through categorical funding. Maintaining

or enhancing research capacity at state ilistitutions is oneexample. Under many traditional formUlas, four-year, insti-tutions are allotted research funds based on a flat (and

__admittedly small) percentage of instructional fundinggenerated through the formula. This has 'the effect ofspreading research 'hands among all institutions, largely inproportion to teaching loads. In 'essence, this reinforces thenotion that all public four-year institutions have a researchmission. The major state university is on an equal footingwith comprehensive institutions only recently emerged fromteachers colleges. Any advantage accruing to a majoruniversity is largely a function of institutional size. r'

o94

, .

Tennessee has developed sa new method of fultlingresearch' that runs Counter to this traditional approach. Thestate's allocation for academic research is determined by an

,institution's success in acquiring research support fromother sources. An' institution receives atate research funds indirect proportion to its shaze, of nonstate research funds ,

'acquired by all institutions. in the state. Under this itrainge-meat, already well established research institutionsare ableto reinforce 'their missions` in a way that ',does not requireresearch funds to flow to inatittitionir that do not havedemonstrated research capacity.

The funding mechanism' developed by Tenney:bee hasapplications in areas other than research. For example, statesmay wish to use this approach when maintaining or enhanc-ing, an institution's capacity to engage in public service. Themore service an institution provides with funds from othersources (including participant fees), the greater the supportprovided by the state.

Special- purpose allocations can also promote institu-tional selectivity and stUdent quality. Funding pechaniamscan be devised that reward institutions for attracting a

ter number or proportion' of students above (or not) a stated measure of academic preparedness. For

- example, a state May Wish to provide actditional fundsaccording to the number or proportion of merit scholarsattending an institution. Alternatively, it can award a. flatdollar amount for each percentage decrease in the number ofstudents enrolled that enter with test scores below a certain'level or who fall below a certain percentilein class standing.We might note that some of these objectives are accom-plished by fiat when states mandate admission requirementsfor certain institutions. 4

,Many states have used special-purpose allocations toaddress critical faculty shortages. This approach allows `for . -special salary increases to faculty members in such dis-ciplines as engineering and computer science, in whichdisparities between university and private-sector salaryscales ate greateit. An altet-native .is to fund additional-faculty support or special endowed-chairs on a shared basis, fwith other funders identified and committed by the indivi-dual institution.

4#

95

During periods of enrollment decline, supportAi liservices and resources:may, prove entirely inadequaremedy this Situation, some states have loosened or elimi-nated the, link between library funding and enrollments,preferring hinged to base fib alkcationsvn the:size anddiversity of academic programh. In certain instances even -t approach may prove insufficient.' If a state places.pilority on creating exceptionanfbniry resources orOP for 'Ide#tified 401Cienc4e4; infy.'"v!sh, alloateon the the relative 'ffistinoe;

of #orif000e;timeS a4to take their tc ' u t and f.

ties. As in the case of lib 'Servictia;;,teS rstaiVishdecoupiethemaintininkeand acquisition oguIpinent and As

. from tAtiven fabta*ObesdhdiOn is toallocate funds ft' Iti.t* ctilite4 airtotult ofdepreciation ozr cap faCi***- AilPtheroption to **le to,' the amountrequired 'to.replace. der anti facilities.

,

4'

Contributions to Se' constituentsAlthough state anment Isciiiainly the thajor *der, r

of pliblfc postseco ary education, other. constituents *4'4 ;

only exist, but have important,,iptsi d yaid oipecta-tions. States. genera* respOnd .0;1 'these gOuitsthrough PlOgritma. In 441 these pro-grams, the state ice, &Aire that they meet its own needsand priorities r bile' abo these constituent4rOupti..4

Becalaselhe new or constituents can vary greatly- .

from state to state, and even,between different regiona of asame state, this, kind of special-p*pose funmiilig needs betailored'to specific circumstance,. The needs and 4-tions of local business and bstry, for example, can be metthrough caNtation grants. pride incentives for trainingapd humaniesou.rce development in certain ociupational

!fields. Like:wise,' siaecifici,disciplines closely tied to publicservice or_ state aconondb activity, such ap public healthor engineering,' can be promoted through special-purposeallocations. Categorical funding enables the state to support

'96, 4

4.

worthy programs without proliferating or duplicating themthroughout the state system and without institutionalizinthem for an hidefinite period.

Special-purpose funding remains an =caw way ofsaying special populations within the staUt and specificcon-stifuents of state c9Ileges and universities. The potential

of this aoroach, however, is that it will direct stateto speciffc SOre points and priceities, while neglectingdiscus of and attention to cme funding of higher ,

education. Special-purpose allocations remaina supilement,not a substitate, for broad state commitment to its collegesand universities, If states are respond adequately, even .creatively, to the new realities of the. 19803, they mustexpress this comdlitment through be components of thebudget hrways that are not only appropriate but innovative.

97

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\

Appendix:.s -

Ouverations of DiffereptForms of Budget Formulas

.

An Illustration of Formula Budgetingf

The text of this book with different budget formulas ona conceptual level. appendix illustrates several of thesealternative forms by on maples of formulas thatare being or have been used in various states. Our gbjectivehas been to illustrate, not recommend: Some examples illus-trate formulas no longer being used in exactly the formdescribed. In one case we draw upon an approach that wasrecommended and considered but never iniplemented. 'lbillustrate most of the formula variations identified in thetext we first pummarize the formula approved for use inKentucky in 1983 anti note its major elements (see table 31.This particular formula was chosen for illustrative purposesbecause o'f its comprehensive framewoik, incorp3rapg.both single-purposg and general-purpose components, andbecause of the variety of calculation approaches embeddedwithin it. We then indicatealternative constructions for oneor more major components of such a formula, as employedin other states.

97

1'04

P

,

' I IP

ie. 14 1 leve

:, I' t,t1 I I 11Al2....1

V I

t."Ij rk,

V III OA I 6

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I

r,

Ito ISa e 1

' i t V. 0 I Mti

.. it 11 Jr .1t.t.

1 e . I ! 01 * 4..../1, 4 -. ,... i

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at,., VI .4 I ,*

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10,0 I I

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II 4) 01'

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TABLE 3, cordinued

99

PROGRAM AREA UlDRUNRS 7 comshows

P. Hospiti Is Institutkat Acontractamount

Institution Bsupportseririats and direct statesuPPust

Thal budget x % forsupport services pha a direct

. state appopriadon

G. Agriculture Experiment # a Kentucky acres xStation avera* state support per

acre for peer states

H. Other Research % x sponstucx1 research

Plusmandated pcgrams

1. Other Community Service Base

j. Aviculture Coopera;iveAxtension

K. Libraries, Museums, andGalleries

L Total Primary MissionAreas

M. University Press ofKentucky

/7

base for tpecificplus mantkfted

programs

# of Kentucky counties xaverage state support percounty for selected peerstates-

8

An amount specified in a=tract kw services -red

Base x rate askulationcotipled with a categoricalaPPsuPristlun

Bine x rate calculation

Percent of base factorcoupled with categoriadallocations for specificinstitutes/miters, etc.,supported with state funds

A fixed base for main-tenance of basic capacityplus categorical funding tosupport specific programs.The amounts for mandatedprokrams are calculated onan incremental base (Le., 1.0A times previous year'sallocation,

Base x rate calculation

Base plus # of SCH in excess A fixed- plus variable-costof.50,000 times S/SCH calculadon(different factors applied tocommunity colleges)

Subtotal components A-K

pogrom funded

A

Categorical funding

100

100

TABLE a, continued

PROGRAM ARRS..."0,

114 Sh;dent Services

0. Maintenance andOperation ofPhysical Plant

P. Sc.holarships andFellowships

Q. Institutional Summit

Educational and GeneralDebtAervice '

S. Unfunded Retirement

T. Less: Investment Income

U. Less: Tuition IAcome

V. Less: State FundedRetirement I

Total State Support ofE&G Operations

.GUIDailvES COMMENTS

Base Owl headcount enroll- Fixed + variable calculation'est x rateihatdcouptenrollment

&I: ft. x raielsq. ft. +utilities + actis x ratelacre+ rental and lease amounts

indirect cost recovery forspa= utilized by research

16 of tuition revenues +state matching hinds requiredfor federal programs fa 914 +mandated programs

96 of all previous conkponents with the excepdonof F, Hospitals

Total mandatory transferless dedicated revenue,interest earnhip, andfederal subsidies

Program funded.

% of tuition x establishedinterest rate

# of students x tuition rate(corrected for reciprocityagreement, etc.)

program funded ,

'fatal - lines L-V

A ccanlinalloril of rate x.base, categorical., and .

contract funding

Rate x base combined withpercentage of base (actorand a categorical component,the latter determined on anincremental basis.

96 of base.factor calculationt

Base x rate calculates

° Categorical (

Souitcs: Ken Cqunpil on Higher Education, .1984/86 Budget Request Guidelines1Frankfort, RyKentucky on Higher Education, 1483): p. 43.

107.

re'

-101

Voriatkms. on the Theme

The Kintuckylormula described in table 3 represents anaverage-cost approach, particularly with respect to primarymission areas, and provides_ fairly detailed calculations forseparate program, areas. Variations on this . approach arenumerous; some are minor and some are major.' The re-rnainder of this appendix describes three such variations. - ,

They tend to reflect diffifrent economic assumptions, as Inthe fixed: and variable-cost approach prepared but. notimplemented in Wisconsin and the marginal-cost approachemployed in Indiana, or a desire to simplify -th ula, asin the approach developed in Mississippi.

A Fixed- aid Variable-Cost Approach

Process. Proposed for use ip Wisconsin, this fixed- andvariable-cost approach to calculating instructional expenses(University of Wumonsin System 1980) was initiated by anad hod group of administiators in the university system'Theinitial design was discussed in detail with each of the institu-tions, with suggestions for implementation incorporated into-the next stage of development. All data needed for the studywere available at the system level:. student and clairriculL-data from the central data base, cost data from the budgetfile, and, faculty data from the .0ctober 1 payroll file.

Deterfnining the Level of rued Costs. The fixed-cost com-ponent of the instructional budget was based on the assump-tion that, at a minimum, one section of each course must beoffered to provide access )to the current curricular andprogram arrays at the institutions. The following outlines thestep-by-step approach used in calculating fixed-cost levelsfor instruction by institution (University of WisconsinSystem 1980, pp. 8-1-13-3):

108

102

I. Identify Fixed-CottiSectkms

A. Aissumptions.

1- The curreni misskon, prigram iarray, and courseofferings fot each instihstion qecarnpsoA single (set of) irtion(s) for each course offered

( in a given tews '-

A. Using the assumptions above, plate the ntamberof fixed and variable obtuse sediqns by institutionor camplo, discIplipe; course level, and type of

® instruction.*

Fardity Work-Load.Measure

A. Assume anent faculty work load by campusdisci-pline, level, and type of ihstructiOn.- jof

B. ealculate current faculty workload in terms ofnumber of sections per FTE by campus, discipline;level, and type.of ipstniction. -

C. 'Using the above work-load measure, calculate thenumber of FIT fatuity required to teach the fixed-cost sections identified.th I.B. above.

III. Determine the Fixed-Cost Level ofinstructional SalaryDollars

A. Assume 'current faculty, academic administration,and instructional support persomtel and currentsalary levels. ,

B. Calculate the fixed-cost faculty salary dollars bymultiplythg the number of FTE faculty required toteach fixed-cost sections x the percent effortdevoted by each faculty cosigned to the sections xthe average faculty salary, by campus, discipline,and level.

'In addition to the single-section assumption, special sections may be identifiedas additional fixedoust sections if they are required to meet the =kyle needs ofispecial student clienteles, such as extended-clay or pert-time students.

109

r

47'

C. Calculate the fix(4-cost academic-administration/ti instructional-supportAalary dollars 'by prorating-

total acadeinic-administradowinstruclion"salary defiant between fixed and variable costs,based on the ratio of the number at !PIS focally re-quiptto teach the =Omit/LC. above)to total IrTE ficulty fir the camitaa.

thefixed-Cosi Leval of Academic SuppOstStaff, Supplies and Eneriset and Capital Dollars

.4 A, . Assume Current level and salaries of classified -staffin support of histructiontand current dollar levelsfor instructional supplies and expepse, and capital.

,- iB. Sur,lby campus, total academic classified .salary,supplies and expense, anti: capital dollars,' and.assign a portion of these dollars to filed costs basedupon the ratio of fixed-cost faculty FM levels tototal faculty FrE for the campus.

V. Determine TotatFixal Costs' and Percentage of FixedCosts for instruction II 4

A. Sum the fixed-cost level of faculty and academicad-salarydollars, classified staff, supplies

and expense, and pa dollars, by discipline, bylevel, and by institu on or campus.

B7 Divide total flared -colt dollars by total instructionel -

budget to compute the percentage of fixed costsfor instruction by institution or campus (see .tablt4 for percentages of instructional fixed costs 'by

,0 institution).

C. Sum total fixed-cost instructional dollars for eachinstitution and diVide by the total system instruC-

. tional budget to yield the percentage of systeminstructional dollars that must be considereda fixedcost if existing institutional programs are to bemaintained.

1

A

..103

-

..

104

4

Vb

TABLE 4

University of Wisconsin SystenuiMed-Coot Analysis

InstructionBase Year-197849

, e

%of Mad Coma-lb Of FILL C000"1.6111011 weeded

11420e Ssettaas illwasabb Sac**,

t UW SystemDoctoral Cluster

MadisonMilwaukee

University ClusterEau ClaireGreen BayLa CrosseOshkoidtParkside .Platteville °

49.7%

482. 46.751.4

50.047.567.740.649.363.353.p

.

51,7%

50247.4.56.551.748.869.741.15E769.8544

y

.

River Falls A 59.6 600. Stevens point 45.2 46.0.Stout 42.6 42.9

, - Sum. WI'WWtewater

69.844.0

71.547.1

Center System 65.6 68.4Baraboo/Sauk County 63.7 64.6Barron County 64.5 67.1

. Fond du LacFox Valley

, 68.167.8

73.367.8

Manitowoc County 70.9 73.6Marathon County , 63.3 65.0Marinette County 79.9 79.9 ..MarshflekliWood County 75.3 . 76.81

Medford 87.9 92.6Richland 77.0 78.0Rock County 65.8 692 iSheboygan County 69.6 72.0 ;'

Washington County 70.0 74.41 Waukesha County 51.6 56.2

.7"'&MRCS: University of Wisconsin System, "FizedNariable Cost mthe University of Wisconsin System.'! Discussion l'sper. Madison, Wisccatis,11 April 1910.

111

f 4

A Marginal-Cost Appriioch.

105

Objective& In adopting and implementing its currentenrol ant- change formula for calculating instructional ex-pense, the Indiana Commission on Higher Educqtion (1983,pp. 2-7) sought to address the following objectives:

1. New expenditures in a program should relate_ to oldexpenditukes in that program.

2. There should be a symmetry established that similes;additional expenditures when enrollments increase, and as-sumes loweral expenditures when enrollments decrease.

3. The state shouki be sensitive to the Beale' of enrollmentchange that is occurring that is, small enrollment "changesshofild receive relaiivelt less funding attention, whew .large changes should seceive greater attention.

4. To the maximum extent possible, a coragorahleandhopefully equivalent procedure---Motild be used for each,institution and campus. -

5. Cilculatitins should be based on demonstrable data,,wherehistorical enrollments are needed, and on best-estimatesworked out cooperatively by the Commission and the in-ititution, where future enrollment estimates. artneeded.

. 6. A responsible -funding plan should look backward tocorrect assumptions made earlier, If necessary, andtp the future in order to accomModate anticipated growthor decline in enrollments.

7. Enrollment change should, if possible, take into account, changes in the mix of enrollmentsamong programs as well

as overall campuswide changes in grossenmllment levels..8. The enrollment-change portion of the Commission's

budget should deal' with enrollment change only, andshould not attempt to accomplish other objectives such asequity among campuses, etc.

9. In Order to make informed decisions about start-up of newprograms as well as possible quality improvements inongoing programs, enrollment change funding calcu-lations should be made at the prograM level rather thanthe campus level.

112 ,

106I

me

Current Prams. The current marginril-costhig proce-dure employed by the Indiana Commission is bait explainedmathematically:

.

MCi'. Iti x AC, x Mai

where e. the ith progrom areaMCi marginal cbst, eigansed in &MarsAC, the current average cost for the Eth program,

' expressed in dollarsMCF/' a marginal-cost fector, which depends

size of esurghnent change f9r the ith- the change In egirollment in the itit

. ,

The marginal-cost factors incorporated 'into the caltula-.

tion are presented in table 5.

TABLE 5

Marginal-test Factors

qb Cbsswe linireanientMCF

.1- 10% 22.8%1.1- 240 28.12.1- 3.0 32.73.1- 4.0' 35.74.1- 5.0 38.25.1- 6.0 39.96.1- 7.0 41.47.1- 8.0 42.78.1- 9.0 43.99.1-10.0 44.8

10.141.0 45.811.1-12.0 46.6°12.1-13.0 47.413,1-14.0 47.914.1-15.0 49.515.1-20.0 49.720.1-25.0 51.2

-25 52.4

For purposes of budget computations, the above calculation-is computed for each program area at a campus, thensummed arras all available program areas.

113t

f.

107

Enrollment- change funding (in state-dbllars) is simplycomputed as:

NSF 0.1l#1C - MR 7where NSF new/state funding

MC the sun i of all marginal, costs for individualprogram areas at a opus

MR - the new (marginal) fees associated with the Mangein enrollments.

Some special observations may be helpful:

1. Changes in enrollments (AN may be negative, in -which case marginal costs may be negative (MC1).

2. The marginal -cost factor currently varies from 22% toapproximately 50%, depending upon the magnitude of

. enrollment change occurring.. 3. It is possible, and occasionally it actually happens, that

marginal revenues (MR) exceed marginal cost (MC). Insuch a case, new state funds could, for example, b_enegative, even when enrollments are increasing.

ollment shifts in students from one program area tother program areas may have a substantial impact on

state funding even if gross campuswide enrollments donot change. Fot example, students shifting to higher-cost programs may cause appropriations to increase,

4. evenif total enrollments do not, and vice versa.

Perceived ProiRinns with the Current Strategy The follow-ing is an attempt to presentthe varous problems, difficulties,and complaints. that have been articulated by institutionsand others about the current marginal -cost strategy:

1. It is difficult to predict enrollments in the base yearaccurately, and this influences calculations for the pro-jection years as well:

2. It is difficult to understand and explain the currentpro-c)!clure to the General Assembly.

3. The General Assembly, as well as some institutions,appears to be searching for a revenue-equity model, nota cost-equity model.

114

.108

11.

,

4: Even 'morning the sralklity of the marginal-cost calcula-tion procedure, the marginkkost factors used by theCommission are too low and should be increased toreflect expenditure increases evidenced byinstftu *Because ; the nature of the.marginal-cost' formula,campus institution often must *lain or rationalizecoun results, both to the General Assembly/and to . .On-samptui constituents.

. 6. Despfte Commission's desire for symmetry incalculating . cots for the growth or contraction

of . programsc the reality of the computation isthat the same change in FTE enrollments on the way upyields a larger marginal-cost factor than on the waydown.

7. Because of. the current formulation of marginal-costmethodology, a large enrollinent change in one yeardoes not yield the same result as a corresponding seriesof smaller changes occurring over several years.

8. The level of detail by the Commission appeasinappropriate for many caraptis-kvel man*mentdecisions ..: enrollment change.

9. The current . . makes the same assumptionsabout econo of scale for each campus, yet theseassumptions do not reflect' substantially differentcapacities, . : levels, and management styles atthe various cam 4' and institutions.

10. When enrollmen change, the f011egfeets of that change

(vis-a-vis fun. : for example) are assumed to occur in

one year, yet pus reactions are likely to occur moreslowly, perhaps - ending Aver several years.

11. By offsetting ginal costs with mAginal revenues,the-Comniissio has`made it difficult, if not impossible,for a campus t improve its relative position throughenrollment c

12. Average-cost its used. in the marginal-cost proce-dure are ,p a result of -historical managementand demograp changes, and do not reflect the idealor desired lev 1 of program funding:

1.154

;4

A 'Percentage-of-Base Approach

Mississippi Nes a percentage-of-base formula for devel-oping annual appropriation requests for its eight senior

,.universities. The formula employed by the Board of Trusteesof State Initituitions of Higher Learning for developing theFY 1980-81 requests consisted of four components, the lastthree ben'''. figured 14 percentages of the first (Gross 1982,pp. '37-38).

Instruction. Total student credit hours by level (lowerdivision, upper division, and graduate), and by. discipline{ twenty -six areas) were Multiplied by given rates per studentcredit hour for three types of institutions tcomprehensive,urban, and regional without doctoral program). Thesecalculated amounts represented the total instructionalbudget.

General Administration, Library, Student Services, andPhysical Plant Operation and Maintenance. The budget wasdetermined by 'a percentage of the total amowit calculatedfor instriction-47.0 percent for urban and comprehensiveinstitutions 'and 50.0 percent for regional universities.

Research. The research budget was calculated as apercentage of total instructional costs-6.0 percent forcomprehensive and urban institutions and 2.0 percent forregional universities. The.tc;taLs of the three components plusan inflationary allowance (9.5 percent) represented the totaleducational and general budget for each institution.

Income Deduction. 'A percentage of the total educationaland general budget was deducted to arrive at the net appro-priation request. The income deduction was 32.0 percent forcomprehensive, 30.0 percent for urban, and 26.0 for regional,universities.

dr

116H

109

.

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Richard, and Ermian, PauL Marginai Costing Thchnispanfor Higher Education. Boulden Colo.: NCI S, 1983.

Brinkman, Paul..."Formuli Biiigetinir The Fourth Decade."114Respondikg to New Realities and liatdin& pp. 21-44. NewDiTections for Institutional Research, no. 43. Edited byL. Leslie. San Francisco: Jcasey -Bass, 1984.

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Gross, Francis M. Fbrrtuda &dieting for Higher Education: StatePractices in 197940. NCHEMS Working Paper Series.Bouklez Colo.: NCHEMS, 1982.

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Monograph no. 9. Knoxville, Office ofInstitutional Research,Unbreisity of limnessee, 1973.

Indiana Conunission for Higher Education. "Notes onEnrolimeni

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UnivErsity of Wisconsin System. "Fixed/Variable Cost Analysisin the University of Wisconsin System." Report-4o theWisconsin Board of Regents. Madison, WiSconsin, 11 April1980.

Wikiaysky, Aaron. The Politics of the Budgetary Process. 2nd ed.Boston: Little, Brown and Co., 1974.

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