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Popping the Bubble
Democrats Miss Again on Student Debt Fix

In an effort to cope with the student loan crisis, Senate Democrats have unveiled a plan to reduce the rate of student defaults by forcing colleges and universities to be more aware of the loan repayment performance of their graduates. Inside Higher Ed lays out the details:

Currently, institutions are kicked out of the federal loan program if their two-year default rates are 25 percent or higher for three years or exceed 40 percent in any single year. The most recent national two-year cohort default rate across all sectors of higher education was 10.0 — the highest since 1995. The department is transitioning to a three-year default rate for the upcoming year.

Under the new proposal, a college whose student loan default rate reaches 15 percent or higher in a single year would have to begin to pay a penalty of 5 percent of the value of the outstanding defaulted debt. As an institution’s default rate increased, it would have to pay increasingly larger penalties, with a maximum repayment of 20 percent of defaulted debt for colleges whose default rates exceed 30 percent.

The money collected from institutions would be directed toward borrower relief and the Pell Grant Program.

Overall, this plan suggests a certain amount of political cowardice on the part of the Democrats. Easy access to federal loans have played a central role in pushing tuition upwards. Yet rather than cut back on the counterproductive yet popular programs directly, this proposal keeps them intact while forcing the unpalatable work of telling students ‘no’ onto the schools:

“They will have to have skin in the game,” [Senator Jack Reed of Rhode Island] said. “They will have to make financial judgments based on how well-informed and how reliable their graduates are in terms of paying back their student loans.”

‘Financial judgments’ are the key words here. The good Senators probably think the universities will automatically lower tuition to allow the same number of students in, but it seems just as likely that universities will also try to admit fewer risky students into their programs. That’s certainly a mechanism for limiting demand for unaffordable student loans. But it’s a marginal fix, and it ultimately won’t do enough to solve what truly ails the higher ed system: too much free money inflating tuitions.

It will, however, get the federal government even more involved in regulating the entire sector—something that’s really not necessary or desirable, when a simple roll-back of student loan largesse would solve the problem much more efficiently and elegantly. There’s just no political will to push the efficient solution through.

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  • TommyTwo

    Universities engaged in unnecessary and inefficient spending which they paid for by jacking up tuition to sky-high levels, knowing full well that this was conditional on the federal-backed student-loan edifice. Through their unsustainable spending decisions, they made themselves dependent on the federal government. And now they shall reap.

  • Gerald

    Why not simplify the issue by making loans only in an amount that salaries resulting from completion of specific degrees from specific universities? Fining universities is unlikely to accomplish anything other than further increases in fees and tuition to cover said fines. The real issue here is encouraging loans in amounts that can not be repaid based on potential earnings of the studies in question.

    • Joseph Blieu

      Good idea but we can’t have it. It does not have enough unintended consequences and it really might address the problem. Fining Universities makes it unnecessary to admit that different acedemic programs have different results in the working world.

  • free_agent

    You write, “a simple roll-back of student loan largesse would solve the problem much more efficiently and elegantly”.

    Certainly, there would be objections from colleges that do give students skills commensurate with the tuition they charge. But more of a problem would be that going to college would become tightly dependent on one’s parents being at least somewhat affluent.

  • Doug

    Making student loans non-dischargeable in bankruptcy seemed like a good idea at the time because of the widespread abuses that easy bankruptcy allowed. However, this created forms of moral hazard: schools raising tuitions and giving students lots of federal-subsidized loans to pay the higher tuition. The schools don’t care about whether the student can pay the loan or not because they aren’t responsible. The lending institutions don’t care either because the federal government is on the hook or because the loan term is effectively for the lifetime of the student, which gives them a long time to recover the debt. The students don’t care because they have no understanding of what it means to finish school at age 21 with a house-mortgage-sized debt and no means to pay it off.

    The Democrats’ proposal is on the right track but fatally flawed for the reasons others have given. My suggestion is this: make student loans (both private and federal) dischargeable in bankruptcy after 10 years. The 10-year waiting period will give the student plenty of incentive to pay the loan off and the eventual possibility of bankruptcy discharge will focus the lender’s attention on the student’s prospects for repayment. In addition, I would make the school contingently liable to the lender for some percentage of whatever amount of debt is discharged in the bankruptcy – say 25%. That would give the school a powerful incentive not to load unpayable debt onto unsuitable students. The schools are in some ways the best position to make this judgment – certainly they have better information than the lenders – and so it would be efficient to shift this burden to them.

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