Student Loans: Another Federal Debacle

Even if you aren’t considering going back to school, you’re about to pick up the tab for a college education. The same cast of characters that brought you the housing crisis, a post office hemorrhaging billions, and a school system that gets more expensive as it gets worse has now brought us a student loan crisis. 

 

A recent report from the Federal Reserve Bank of New York says the value of student loans outstanding is now close to $1 trillion, making it the largest and fastest-growing share of non-mortgage consumer borrowing. Unlike other forms of consumer debt, which have fallen, total student loans have grown by 75 percent since 2007. 

 

The federal government has pushed relentlessly to expand access to college by cutting out the private sector in loan programs and by altering repayment terms for borrowers via executive order. It bears an eerie resemblance to the obsession with homeownership that got us into our current straits.  

 

Like potential homeowners, students have been encouraged to borrow with impunity. It continues to intensify: The Department of Education lent $133 billion in 2010 and $157 billion in 2011. Late-payment trends are also following a similar pattern to the subprime mortgage crisis. With new programs geared toward “income-based” repayment plans and forbearance timetables, it is increasingly likely that the federal government and thus the taxpayer will eventually be on the hook for tens of billions of dollars of loans that will never be repaid.

 

This phenomenon has real social consequences. With two-thirds of college graduates possessing student loan debt of at least $25,000 and 53 percent of recent college graduates either unemployed or acutely underemployed, unproductive economic dislocations—putting off the purchase of a home or delaying marriage, for example—are rampant.

 

This misguided policy approach has produced more than a student loan bubble that could damage the economy. It has also triggered an inflationary spiral in tuition costs and provided college bureaucracies with incentives to become bloated and inefficient. As one critical report recently stated, “In no other industry would overhead costs be allowed to grow at this rate—executives would lose their jobs.”

 

The billions of dollars sloshing around the system have inflated the price of college. Since 2000, tuition at public, four-year colleges has risen by an inflation-adjusted 72 percent, and over the past 25 years, it has increased at an annual rate 6 percentage points higher than the cost of living. When prices rise, government loans increase to effectively subsidize the difference, allowing colleges to continue increasing tuition, thus completing the cycle.

 

One beneficiary is online education. While it will never completely replace the college campus, current economic realities make it a legitimate alternative. It provides an avenue of highly individualized instruction at a fraction of the cost of the traditional model.

 

Overspending on higher education has reached a tipping point. Just as aggressive government intervention in the housing market led to a variety of economic distortions and ultimately cost the taxpayers billions, the student loan problem is destined for similar results unless substantial reforms are implemented.

 

The government must exit the lending arena and be replaced by an active and innovative private market with sensible underwriting standards. A variety of arrangements would be possible in this environment, including contractual agreements between businesses and students that revolve around the future employment and cash flows of the borrower. 

 

Before we can get to that point, however, it is essential that we grasp as a nation how unproductive and costly it is when federal authorities try to dictate outcomes by aggressively intervening in the marketplace.

 

We must return to first principles and continuously ask ourselves what the proper role of government is in a free society.