Contending With Cost Increases

The Governor’s 2009–10 budget includes no new funding specifically to cover cost increases at the three higher education segments. Moreover, for the current year the Governor calls for midyear base reductions of $65.5 million at UC, $66.3 million at CSU, and $40 million at CCC. Taken together, the Governor’s proposals would require the segments to make important choices about contending with new costs.

Segments Typically Receive Augmentations for Cost Increases. The higher education segments usually receive annual augmentations for the increased costs of labor and other operating expenses. For CCC, these costs are typically accommodated through the same statutory cost–of–living adjustment (COLA) formula that applies to K–12 schools. In contrast, statute provides no guidance for funding cost increases at UC and CSU. Since 1995, the universities have entered into nonbinding agreements with each governor, specifying multiyear funding targets that include base increases to account for inflation and other cost increases. The universities and the current Governor entered into the most recent compact in spring 2004. A few years later, however, the Governor abandoned the compact, proposing no funding for base increases or growth since 2007–08.

No Funding for General Cost Increases. The Governor’s 2009–10 budget does not provide General Fund augmentations for general cost increases at the three segments. (It does, however, include augmentations for some specific cost increases, such as retired annuitant benefits.) In contrast, the budget proposes a 3.2 percent inflationary increase for state departments’ operating expenses.

Rate of Inflation Likely to Slow. Due to falling inflation in many core areas, cost increases for UC, CSU, and CCC are likely to be significantly lower in 2009–10 than in recent years. Sharp decreases in energy prices and a weak labor market will likely offset rising health care costs, leading to low expected growth of less than 1 percent in 2009–10 for state and local governments. We expect a similar decline for the rate of inflation for colleges and universities. Figure 17 compares some common measures of inflation in higher education. It shows, for example, that projected inflation for 2009–10 ranges from –0.1 percent (a decline in overall costs) to 0.8 percent (a slight increase in overall costs).

Segments Have Some Control Over Costs. In general, campuses face two kinds of potential cost increases for operating expenses. Some cost increases are largely unavoidable in the short term. For example, if utility companies increase their rates for electricity, campuses are generally obligated to pay those higher rates (although they can take actions to reduce their consumption). In addition, while retirement benefits for future employees can be negotiated, current law guarantees retirement benefits of current retirees. Thus, without new funding for these cost increases, campuses must reduce other items in their budgets to pay higher nondiscretionary costs.

There are other potential cost increases, however, over which the segments have more control. Key among these are salaries and other labor costs. In effect, the segments set the price for labor costs guided by the labor market and available funding. The segments have greater discretion to alter wages and benefits of non–union employees (including administrators, most UC faculty, and some support staff). Compensation for unionized employees (including CSU and CCC faculty, librarians, nurses, and campus police officers) is set through collective bargaining. The administration at each segment typically can reopen these contracts to renegotiate wages and benefits in the event the budget act does not include funding that had been assumed when the contract was negotiated.

Absorbing Cost Increases. Because most nondiscretionary cost increases are expected to slow or even decline, the segments should be able to absorb expected general cost increases in 2009–10. We acknowledge this may require difficult decisions on how to reallocate resources. Some common cost–savings approaches that the segments have used in the past include the following:

• No funding for salary increases for management.
• Reopen labor contracts and negotiate either freeze or reduced increase of faculty salaries.
• Delay purchases of capital equipment.

Weak Labor Market Will Help Universities Remain Competitive. Total compensation of faculty and administrators at both UC and CSU is competitive with their public comparison institutions. Studies commissioned by both UC and CSU in recent years show total compensation (salaries and benefits) of faculty and administrators to be above average compared to its public comparison institutions.

Because of the national recession, funding for many public universities has begun to decline. Many private universities have also reported declines in endowments and charitable giving. Universities across the nation have responded by announcing salary freezes and allowing for priority hires only. Similar to UC and CSU’s announcement freezing salary for senior management, universities are making reductions in many administrative and support staff budgets. Because of the current labor market environment for faculty and administrators, even without funding for compensation increases for 2009–10, UC and CSU likely will remain competitive when recruiting and retaining faculty and administrators.

Recommend Accepting the Governor’s Proposal for No New Funding for Cost Increases. Given the state’s budget shortfall, the projected low inflation rate, and the segments’ ability to control costs, we recommend the Legislature adopt the Governor’s proposal to exclude new General Fund augmentations for general cost increases at the three segments. (This is consistent with our recommendation for all state departments.)