Magazine article University Business

Investing in the Future: How Colleges and Universities Can Guard against Inflation

Magazine article University Business

Investing in the Future: How Colleges and Universities Can Guard against Inflation

Article excerpt

Monetary policy in the United States took a dramatic turn with the introduction of quantitative easing after the financial crisis of 2008. Although it achieved its primary objective by forcing down long-term interest rates, it also increased the supply of money in the economy, which has contributed to inflationary pressures in the past. While we are fortunate to have witnessed a lengthy and very low inflationary environment, as money supply increases, the probability of higher inflation also increases.

The U.S. Consumer Price Index (CPI) is the most common method of measuring inflation. CPI is a measure of the price changes in over 200 goods and services that an "average" American consumes. However, for colleges and universities, the Higher Education Price Index (HEPI) is more appropriate.

Compiled from data reported by government agencies and industry sources, HEPI measures the average relative level in the price of a fixed market basket of goods and services purchased by colleges and universities each year, excluding research. From fiscal year 1993 to 2013, inflation as defined by HEPI averaged 3.3 percent while CPI averaged 2.5 percent. Both measures currently are significantly lower than their 50-year averages, which are 5 percent for HEPI and 4.2 percent for CPI.

Impact on invested assets

Universities and supporting foundations generally seek to maximize spending while minimizing distributions volatility. To promote intergenerational equity, they should also seek to grow principal in inflation-adjusted terms.

By growing principal, an organization can ensure that future generations benefit equally from the investment portfolio. Growth of principal in inflation-adjusted terms is necessary for an organization to continue its mission in perpetuity.

Even in the current environment, low inflation can rapidly decrease purchasing power of an investment portfolio.

For example, during FY1993 to 2013, when HEPI was well below the 50-year average, $1 held at the end of June 1993 was worth less than $0.52 by the end of June 2013.

Protecting against inflation

Even during periods of low inflation, a portfolio that is not properly protected from the destructive properties of inflation will see purchasing power erode. …

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