The Ford Foundation announced last week that it would raise the share of its endowment that it spends annually from a little more than 5 percent to 10 percent for the next two years.
That came soon after the progressive Institute for Policy Studies and a coalition of prominent philanthropists called on Congress to require that foundations go a step further and distribute at least 10 percent for the next three years.
This push for higher payouts is motivated by genuine compassion for individuals and communities hit hardest by the Covid-19 pandemic.
But the moral force of the argument for higher payouts should not stop us from critically examining the reasons why foundations might choose to accelerate their spending — and the reasons why they might not.
The case for higher payouts is set forth eloquently by Ford’s dynamic president, Darren Walker, in his blog post explaining last week’s decision. “Extraordinary times call for extraordinary measures,” Walker writes, and with unemployment at levels not seen since the Great Depression, these are extraordinary times. By spending more now, foundations can alleviate some of the human suffering that the virus and its fallout have wrought.
Yet the case against higher payouts, while harder to articulate, carries moral force of its own. For some foundations, not raising payouts in a pandemic will be the better decision, though it is no doubt a wrenching one. The leaders of foundations that are raising their payouts — including not just Ford, but also the MacArthur, Kellogg, Mellon, and Doris Duke Charitable foundations — may be making the right choice for their organizations. It will not be the right choice for all.
Preserving Intellectual Capital
To understand the case against higher payouts, it helps to consider how foundations create philanthropic impact. For a foundation like Ford — with a $13 billion endowment, a skilled staff of several hundred, and a deserved reputation as a stalwart supporter of civil rights, education, and the arts — philanthropic impact stems not only from financial capital, but also from the “intellectual capital” that Ford has assembled. By “intellectual capital,” we refer to the human talent on Ford’s staff, the effective internal practices and processes that allow Ford’s talent to flourish, and the goodwill that the foundation has built with grantees, other grant makers, and members of the public over many years.
In the short term, raising payout rates may actually bolster intellectual capital. Staff members can take pride in the fact their organization not only is working on long-term objectives, but is also alive to the needs of the moment. Growing payouts can also attract new talent, strengthen organizational culture, and generate goodwill with grantees, fellow grant makers, and the public at large.
But a 10 percent payout is almost certainly not sustainable ad infinitum for a foundation like Ford that is no longer receiving contributions. If endowment returns don’t keep up with the payout rate plus inflation, then the foundation will face an unenviable choice. It can either keep on spending for as long as the money lasts, with the understanding that it will ultimately go out of business. Or it can survive by slicing salaries, slashing grants, and cutting off grantees.
Some foundations will choose the go-for-broke approach, and that’s not necessarily the wrong decision. Atlantic Philanthropies — the foundation created by entrepreneur Chuck Feeney — announced nearly two decades ago that it would spend all of its $4 billion endowment. It plans to close its doors this year.
Atlantic Philanthropies has been able to do enormous good for the world over its lifetime — in part because of its high payout rate. But as Atlantic Philanthropies’ leaders acknowledged in a remarkably frank report on the wind-down, going for broke has its costs, too. The decision can be a death knell for grantees that have come to depend on a steady stream of funds. And it can be enormously disruptive to the lives of foundation staff members — especially those in developing countries where other nonprofit-sector job opportunities may be scarce.
Atlantic Philanthropies, we should emphasize, is a model for how to pursue the go-for-broke approach thoughtfully and responsibly. The goal of giving everything away quickly and then shutting down was baked into its DNA. Employees who joined after 2002 knew what they were getting into. Other grant makers that collaborated with Atlantic were almost certainly aware of the foundation’s well-publicized intentions. And the foundation helped its grantees plan for their post-Atlantic lives.
The Atlantic Philanthropies experience illustrates that even under the best of circumstances, breaking up is hard to do. Foundations that follow that course can learn from Atlantic’s lead. But others will decide not to go down that path, and public policy should respect both choices. Great organizations are difficult to build. Once built, they ought not all be dismantled.
The Logic of 5 Percent
For foundations that seek to preserve their intellectual capital, the argument that distributions should remain in the range of 5 to 6 percent of assets is strong. Òscar Jordà of the Federal Reserve Bank of San Francisco and co-authors calculate that the real (inflation-adjusted) rate of return on wealth in the United States was approximately 6 percent from 1870 to 2015 — lower in some decades, higher in others. Members of Congress wouldn’t have had access to that analysis when they established the minimum 5 percent distribution rate for private foundations in 1969, but they did a remarkably good job of choosing a number that would allow foundations to sustain their spending in real terms over the long haul with just a little breathing room.
Consider a foundation that starts with a $100 million endowment, receives no new gifts, and earns a 6 percent real rate of return. If it starts by paying out $6 million or less, then it can sustain its annual payment in real terms for perpetuity. But if the foundation tries to sustain a payout of $10 million in real terms, it will go broke in its 15th year. Even a $7 million payout would — if sustained in real terms — lead to insolvency within three and a half decades.
We do not mean to suggest that foundations face an either-or choice between a 5 to 6 percent payout rate or Atlantic Philanthropy’s fate. A foundation whose payout rate exceeds its real return won’t die instantly, and it can save itself by cutting back in the future. But cutbacks carry consequences for intellectual capital. Talent tends to flee from shrinking organizations. Layoffs and departures undermine internal culture. Retrenchment also threatens to strain relationships with grantees and other funders.
But What About a Pandemic?
Some of the arguments we’ve made thus far can be cast as reasons why foundations shouldincrease payout rates in a pandemic. If a foundation’s portfolio has lost value this year (even though U.S. equities haven’t), then it would need to raise its payout percentage to maintain its real payout amount. A higher payout rate also may allow the foundation to plug temporary funding gaps for grantees whose revenues have declined amid the pandemic. That, in turn, may allow the grantees to avoid layoffs and program cutbacks, thereby preserving their own intellectual capital.
But the only sustainable way for foundations to pay out substantially more than 5 percent during deep recessions is for them to pay out less than 5 percent during boom times. Otherwise, the long-term average payout rate will likely exceed the long-term real rate of return on endowment assets, and the foundation and its endowment will dwindle.
And depending on the foundation’s cause area, the middle of a pandemic may be a particularly bad time to initiate new grants. Overseas projects are difficult to evaluate when staff travel remains restricted. Education projects are difficult to launch when school officials are preoccupied with reopening plans. Medical research on diseases other than Covid-19 may be difficult to pursue when labs are still closed or at risk of shuttering again in a second viral wave this winter.
These arguments may be unconvincing to accelerated-spending advocates who think that every foundation should be marshaling its resources to address Covid-19. But foundations — even with their roughly $1 trillion of wealth — cannot meet every urgent need. In allocating their vast though still-limited resources, they should consider not just the importance of the problem but also the capacity of other actors to address it.
Disasters tug at our heartstrings and purse strings. Even more so than disasters before it, the Covid-19 crisis has inspired enormous generosity from individual donors who are moved — and rightly so — by the suffering they see around them. Governments, too, are reasonably good at responding afterdisaster strikes. As economist Andrew Healy and political scientist Neil Malhotra have shown, voters tend to reward politicians for disaster relief, while spending on disaster preparedness yields little political payoff. Corporations also have stepped up, with Cisco Systems, Google, Mastercard, and Visa among the top U.S.-based donors to Covid-19 relief efforts.
Is this enough? We don’t think so, and we acknowledge that many pandemic-related needs still will go unmet. But foundations may decide that their own resources are better allocated toward other causes, where foundation funds are less likely to crowd out dollars from governments or from individual and corporate donors. Foundations, precisely because they are not accountable to voters or customers, are uniquely capable of pursuing projects whose payoffs are harder to see but that matter just as much to human welfare — the development of vaccines against viruses that have not yet emerged, research on climate-change mitigation strategies, democracy-building efforts at home and abroad, and much more.
Now vs. Later
In striking a balance between the needs of the present and the needs of the future, foundations confront difficult questions of intergenerational justice. Some say that foundations should pay out more today because future generations will be better off than we are now. But the coronavirus pandemic and the near-certainty of future ones leave us unsure that the long arc of history bends toward higher standards of living. We have, moreover, saddled future generations with the staggering challenge of climate change. If we leave future generations with a degraded planet, then there is a strong moral argument that we also should leave them with resources to address a problem that we helped to cause and failed to solve.
Some observers have suggested that a foundation like Ford can avoid this hard choice by issuing bonds today and then distributing borrowed funds — “to have its endowment cake and eat it too,” in one commentator’s words. Ford is, indeed, planning to issue $1 billion of bonds, some with maturities of up to 50 years, rather than selling off assets to finance its stepped-up grant making. But this is not financial wizardry; it’s ordinary debt. Ford will owe interest to its bondholders each year for the next half-century, and by 2070, it will have to pay the $1 billion back. All of that is money that could have been used in the future for grant making if Ford hadn’t chosen to spend an additional $1 billion now.
Ultimately, we do not think that there is one right answer to the question of whether foundations should spend a bigger share of their endowments today. Perhaps the greatest virtue of the American approach to philanthropy —and the laws governing it —is that they make room for multiple conceptions of the good. Within wide bounds, we allow individuals and institutions to decide wherethey will give money. The same commitment to value pluralism counsels for allowing foundations to decide whento give money as well.