With student-loan interest rates set to spike in July, Democrats in Congress and President Obama are up to their usual tricks, pushing legislation that would keep rates low. Instead of seizing the opportunity to stick up for free markets—and students—and distinguish himself from his opposition, presumptive Republican presidential candidate Mitt Romney is joining the sleight-of-hand game. That’s a mistake that a supporter of free markets shouldn’t have made.
The latest excuse for presidential and congressional grandstanding is a supposed crisis that Congress itself manufactured. In 2007, back when Nancy Pelosi’s Democrats held the House majority, lawmakers passed a bill that gradually cut the interest rate on federally backed student loans in half, from 6.8 percent to 3.4 percent. But Congress let the provision expire after five years. Unless Congress acts again, the rate will abruptly return to 6.8 percent. Harry Reid and Lamar Alexander, top senators from each party, agree that they want to keep the super-low rates, and House Republicans have already passed a bill doing that. The only disagreement is how to pay for the continued subsidy. The Congressional Budget Office said on Wednesday that keeping interest rates at 3.4 percent for the next year would cost nearly $6 billion. Romney, too, wants Congress to keep rates low, as long as it’s done “responsibly.”
If politicians really want to help students, they should give them a real-life lesson in economics. Start with the numbers. Either directly or through guarantees, the federal government had disbursed $848 billion in total student-loan debt as of last September, up 17.5 percent in a year. The Consumer Financial Protection Bureau’s Rohit Chopra estimates that students owe another $152 billion in private loans, taking the total to $1 trillion. Last year, the average debtor—or “student served,” in educational-bureaucracy parlance—took on $10,467 of federally guaranteed debt for just one year of tuition.
Even as everyone else is cutting back, then, students are borrowing more—and eight out of every ten dollars that they’ve borrowed came with some kind of federal string attached. That shouldn’t be surprising: when Washington subsidizes something, it makes more of it. This is true of student-loan debt, just as it was of mortgage debt before the credit crisis that started in 2007. The best thing for students would be for the government, instead of spending another year helping students pretend that they can afford all this debt, to get out of the student-loan market altogether.
Who, then, will lend to students? Banks and investors. Let these lenders demand data from colleges, students, and credit-rating bureaus to assess which schools and programs boast the best graduation rates, the best alumni-donation rates, and the highest graduate incomes. Let these lenders, too, assess students’ own credit, job, and grade histories. The lenders can use this free-market information to decide which schools and students are the best bets. And let the borrowers have this information, too, so that they know the risk they’re taking. Finally, allow students the option of discharging their future student-loan debt through bankruptcy, something that they can’t do now. Such a change would make clear to lenders the real market risk they’re taking.
It’s likely, of course, that such moves would prompt howls of protest from all quarters. Student “advocates” would drag up the usual arguments about how federally subsidized loans help middle-class kids compete with rich kids. Not really: too much federally subsidized borrowing pushes up the cost of college for middle-class kids and encourages them to avoid tough decisions about their futures. Schools would hate the new approach, too. They don’t want a free-market assessment of their success rates. They do want students who can keep blindly borrowing to afford sky-high tuitions. Moreover, schools don’t want middle-class students questioning why they’ve got to pay for a state-of-the art gym and luxury dorm room when all they want is a decent education.
Robert, would this interest increase affect existing loans or just new ones?
I am facing the prospect of college for my daughter in three years. It's coming too fast and it will be at a tremendous cost. I have to confess I am completely stupid to the process.
There is of course 2 elements to a loan.
The amount taken, and the interest.
The amounts are increasing for yearly tuition, and the competition greatest at highly rated schools since graduates (with good grades) might actually get a job in their field.
Interest like everything is a market phenomenon, unless the governments mucks with it, and then it STILL is ruled by economic realities, they're just ignored.
Right now, you can get around the 3% for a 10-15 year mortgage, assuming you're top rate credit with a house to value. The 30 year is over 4%
Right now, the interest paid on the federal debt (T Bills etc) are around 2%
Now credit card rates vary from good credit 8% to 21% and higher.
The 3% would reflect the lower interest rates today while the 6.8% is considered high now but back in 2006 in a growing economy it was medium range.
The important thing to consider is since it is the government doing it is artificial - only reflecting market reality by reacting to it with new legislation. A bank would not suddenly jump 3% because a rulebook said so, but a government rate must reflect what the law told it to be, and it reverts to some other amount most likely not reflective of today when the law expires.
(One might note that the subsidy of student loans isn't much more than the rate the Treasury pays on our debt - so its sort of a pass thru. Hmm, by the end of the decade, interest rates likely to double or triple - that would only be historically average - then we'll be getting much less for loans than what we as taxpayers pay out in debt interest!!!)
All this to say that the writer of the article is right.
If you the parent have good credit to guarantee it (not the government who is just printing the stuff)
If the bank and you both know the risks.
If the school is good and worth the money, and your daughter will apply herself to deserve the loan.
a) your daughter should be able to pay back the loan in a few years with a good job, with only the help the parents can afford without screwing up their own retirement, and hopefully not a lifetime of indebtedness
b) if the risks are known, and the credit good (with your help perhaps), the rate will take care of itself. (assuming no hyperinflation which actually I think there will be - but anyhow inflation is your friend when you're a debtor!!!!)
If others are more of a credit risk, then thats what the market says. Those in those circumstances will have to work harder like bad risks used to and now again have to provide cash up front and large down payments for cars, home and business loans, if they get them at all
This post was modified from its original form on 03 May, 19:30
One thing, as of this date, I have maintained excellent credit. So let's hope three years down the road I can say the same. I always figured I'd take out the loan, but you may have a point in my daughter doing it. I can still help her repay it as needed.
Thanks for the explanation. I am going to reread it and then head off to slumberland, 5:00 am comes quickly.
Have a good night and try to stay out of trouble
Over the last three decades, through good economic times and bad, one of the few constants in American life has been the relentless rise in the price of higher education. The numbers are stark: According to the non-profit College Board, public four-year universities raised tuition and fees by 8.3 percent this year, more than double the rate of inflation. This was typical: Over the last decade, public university tuition grew by an average of 5.6 percent above inflation every year.
...Students and families have been left with only one recourse: borrowing. The federal government is now lending college students over $100 billion per year, a 56 percent per-student increase, after adjusting for inflation, from just ten years ago. Most undergraduates borrow today, and leave college with an average of over $25,000 in debt. And as the many signs displayed by the Occupy movement attest, some young people owe much more than that. For a growing number of students, entering the lucrative college-educated realms of the economy is like being smuggled across the border—you can get to the promised land if you try hard enough, but you arrive in a state of indentured servitude to the shady operators who overcharged you for the trip.
But while the administration has done a great deal to mitigate rising college prices by increasing funding for Pell grants and making it easier for students to pay back loans, it has done little to restrain the growth of college prices themselves. The recent communications blitz has raised the profile of the issue, but solutions that might actually bend the higher education price curve remain in short supply. And that’s because tuition addiction is a function of basic structural elements of the higher education system that will require equally foundational changes to alter.
But the severity of the problem should not be a deterrent to finding a solution. The best thing federal policymakers can do is help colleges hit rock bottom as quickly as possible, before the opportunity for recovery is lost. That will mean creating a new policy structure allowing for new higher education providers—not all of them colleges—to help students learn.
BACK-BREAKING TUITION increases are, in many ways, an inevitable consequence of the way our higher education system is currently designed. Imagine you’re in the business of selling apples that cost $1 on the open market. Then the government decides that more people should have the opportunity to buy apples and society would benefit from a net increase in apple consumption. So it decides to drop the price of apples to 60 cents. Sometimes it does this by giving you 40 cents for every apple you sell, on the condition that you start selling apples for 60 cents. Sometimes it gives people vouchers worth 40 cents that can only be used to purchase apples from approved vendors.
At first, the policy works splendidly. Apples are effectively less expensive so more people buy them and the nation is suffused with apple goodness. But then you, the apple vendor, look at the situation and say “Hey, the market price of an apple is still $1. Wouldn’t it be great if I could charge $1 for apples, but still get 40 cents from the government for every apple I sell?” Raising the price all the way from 60 cents back to $1 in a single year would be too obvious and jeopardize political support for the apple subsidy program. So you start raising prices by three, four, or five percent above inflation annually. When annoyed public officials begin asking why, you explain that apple production is an expensive, labor-intensive business, and that all of the extra money is being used to produce the very best apples money can buy. Since apple quality is substantially a matter of taste, this is a hard claim to refute.
Meanwhile, you use some of your new profits to sponsor crowd-pleasing sports events on weekends, building public goodwill. Other profits are used to hire professional lobbyists to plead for both more subsidies and more freedom to set prices. You also convince the government to allow you and other incumbent apple sellers to form a private organization with the authority to decide whether new sellers can become “approved apple vendors” for the purposes of receiving public subsidies. Unsurprisingly, few new sellers are approved.
But eventually things start to break down. As time passes and price increases accumulate, the public starts to notice that while the taxes they pay to support apple subsidies are staying the same, the price of subsidized apples is creeping closer to the market price. This seems unreasonable.Meanwhile, when the economy turns sour, available tax receipts for apple subsidization decline. Instead of raising taxes to make up the difference, public officials drop the per-apple subsidy to 30 cents. This is bad for you, because it means you either have to spend less money on the exotic orchid greenhouse you’ve built next to the apple orchard—the reason, truth be told, you got into the apple business in the first place—or raise prices even further. Luckily, since you’ve kept new vendors out of the market and prices are still below the market rate, you can get away with raising prices, and so you do. This is essentially the story of public higher education over the last thirty years.
When I had student loans, it was through the state of NY. I had one very small loan given to me as part of my financial aid package that was ferderal. My sister had more. The loan program in NY was great though. I can see your point Robert.
"If politicians really want to help students, they should give them a real-life lesson in economics."
I really got tired of hearing that when I was a student. After all, I wasn't living with a silver spoon in my mouth.
"Even as everyone else is cutting back, then, students are borrowing more—and eight out of every ten dollars that they’ve borrowed came with some kind of federal string attached."
My university is getting less and less from the state. It is barely a state school. Salries have been frozen, we are paying more and more for our benefits, and tuition has gone up to meet the gap of what the state no longer suypplies.
That is why student pay more. At the same time, rents have gone up as more are losing homes or simply not buying, food has gone up. They ahve to live.
This post was modified from its original form on 07 May, 8:10
Student loans cannot be discharged in bankruptcy. That should show you how much they're in cahoots with the government.
They're really like tax liens with no escape clause. Again since 2010 mostike Pell and Stafford are directly from the Treasury not a bank
Someone recently told me that if you consolidate federal loans [e.g., Sallie Mae] that you're stuck with whatever that interest rate is ad inifinitum. In her case the rate was 8.9%.......which had to be a slap in the face when the prime rate dropped to about 3% not long ago.
Unless a kid knows exactly what s/he wants to be in life, I would definitely encourage them to NOT go to college until they have the funds to do so. Yes, even if it means flipping burgers for 5 years.