Nearly everyone recognizes that student debt has risen to a level that will be difficult to sustain in the future given the nation’s slow growing economy and the sagging incomes of too many college-educated Americans. Nearly 40 million Americans are carrying some form of student debt; more than 7 million are in default on their loans and many more have missed scheduled payments. Roughly 70 percent of all college students today are leaving school with debts owed to either the federal government or to private lenders, with the average debt per student now well in excess of $30,000. The total amount of outstanding student debt is estimated to be $1.2 trillion, with about two-thirds of this sum underwritten by the federal government.
It is not difficult to figure out the reasons for exploding student debt. On the one hand, high-school graduates and their parents understand that a college education is essential for entry into the narrowing world of high paying professional jobs. College and university enrollments increased by more than a third between 2000 and 2014, from 15 million to more than 21 million students. At the same time, college tuition and fees have been growing at more than three times the rate of inflation for three decades now and at more than twice the growth in the median family income over the same period. In 2015, the average tuition (plus fees) for in state students at public universities is in the neighborhood of $10,000 per year and over $40,000 per year for students attending private universities. A fair amount of careful research suggests that these soaring costs are partly attributable to the increasing availability of loans encouraged by federal policy.
Hillary Clinton’s new $350 billion (over ten years) proposal takes aim at this vast constituency of voters currently paying off student loans or worried about the costs of taking them on. She says that her proposal will enable most students to meet college expenses without taking on loans, a claim that is surely exaggerated in view of the scale and scope of her plan. At best it is a proposal to mitigate the problem somewhat by permitting borrowers to reduce interest rates on current loans and to use the carrot of federal funds to force states to invest more public funds in higher education.
There are three major parts to her plan:
First, (borrowing an idea from Sen. Elizabeth Warren) she wants to allow borrowers locked into loans at high rates of interest to refinance those loans at current federal rates for student loans, much as people are allowed to refinance their home mortgages when interest rates fall. Federally subsidized student loans are given at fixed rates (set by Congress), generally for a period of up to 25 years. The current interest rate (as of 2014) on federal loans is about 3.9 percent, down from 6.8 percent charged a decade ago. That reduction would save a typical borrower carrying a loan of $20,000 or $30,000 between $500 and $1,000 per year.
It is hard to find fault with her proposal, at least in the abstract. Many Democrats and even some Republicans are sympathetic to it as a means of providing some relief for overburdened borrowers. Still, there is less here than meets the eye. Private lenders have long offered variable rate loans that move up and down with interest rates. In addition, borrowers have long been able to refinance their student loans through private lenders, which is already a common practice.
Mrs. Clinton’s plan would allow borrowers carrying federal loans to do so through the federal system rather than through private lenders. This may be a step in the right direction, but it is a very short step when one considers the options already available. Further, her proposal carries an estimated cost of between $60 and $100 billion per year to the federal government, depending upon where interest rates happen to be and how many borrowers take advantage of the plan. This is one of the sticking points: Congress is reluctant to appropriate such funds in a time of deficits, rising entitlement costs, and generally tight budgets.
Second, she proposes to establish an income-based repayment system so that borrowers will never have to pay more than 10 percent of their income on student loans (the standard in the past was 15 percent) with the possibility of loan forgiveness after twenty years of faithful payments.
This is also a reasonable but modest proposal, and one that has been endorsed by other national leaders, including her fellow presidential candidate Republican Sen. Marco Rubio. One problem with it is that the Obama Administration, following the advice of a task force led by Vice President Biden, has already implemented most of it under a law that took effect in 2014. Under that law, borrowers choosing an income-based repayment plan will pay no more than 10 percent of their income toward student loans and those who faithfully repay their loans for twenty years are eligible to have the remainder of their debt forgiven (those who work in public service for ten years can have the remainder of their loans forgiven after ten years). Mrs. Clinton’s proposal “tweaks” current policy at the margins by consolidating existing income based repaying programs into a single plan, but it does not significantly add to it.
There is another problem with income-repayment schemes that is now beginning to emerge. The Financial Times reported last week that Moody’s Investors Service is reviewing the credit worthiness of some student-loan-backed bonds in response to falling repayment rates on loans. Moody’s review was triggered by wider use of income-based repayment plans which allow borrowers to repay loans more slowly, creating the possibility that bonds may reach maturity before the underlying loans have been repaid. This could lead to defaults, even if the debt is backed by a government guarantee. Such concerns have led to a doubling of the yield on Triple-A rated bonds in recent months and to the possibility that Moody’s might downgrade its ratings on those bonds. As the FT reports in its article, “sharp downgrades could spur an exit from the sector by investors banned from buying low rated debt.” This would drive prices down and interest rates higher on those bonds, which in turn could lead to higher interest rates for new borrowers, and perhaps even to an exit from the sector by private lenders.
Third, Mrs. Clinton proposes to spend $175 billion over ten years to encourage (bribe) state governments to invest more resources in higher education so that tuition charges can be reduced at four-year institutions and eliminated entirely for two-year community colleges. Under her plan, the Department of Education would make funds available to match state budget allocations for higher education and to reward states that keep a lid on tuition increases. She would also expand work-study programs to permit more students to work off college expenses during their student years. The combined federal and state funds, perhaps as much as $35 billion per year across the country, she claims, would allow states to maintain tuition at affordable levels for students so that loans would be unnecessary. This is, as already noted, an exaggerated claim. An additional point worth emphasizing: she is not making tuition “free,” but rather substituting taxpayer funds for student-paid tuition.
Total tuition charges at public institutions across the country in 2012-13 amounted to something like $300 billion, plus expenses for fees, books, room, and board. A mix of federal, state, and private scholarships subsidizes a significant portion of this sum. The federal government, for example, spends about $30 billion per year on Pell grants to support tuition and other expenses for more than 9 million students from lower-income families. Mrs. Clinton’s contribution of $17.5 billion in federal funds per annum would make a dent in this package but it is hard to see how it will ever allow reductions in tuition and fees to levels that would allow students to dispense with loans.
Appropriations for higher education in states across the country have fallen off by an average of 16 percent since the onset of the financial crisis in 2008. Mrs. Clinton, along with the liberal think tanks associated with the Democratic Party, claims that this is a major cause of tuition increases at public universities and thus a major source of the student debt crisis. This is another exaggerated claim: student debt was accumulating for years and decades prior to the financial crisis due to rising college costs and the wide availability of federally subsidized loans. The financial crisis made many problems worse across the country, including the student debt problem, because it provoked a budget crisis for state governments that extended to all publicly funded programs.
Mrs. Clinton and her advisors might ask themselves why so many states found it necessary to cut appropriations for higher education in the years following the financial crisis. The major reason was that governors and legislators had other priorities, among them paying for public employee pensions, meeting federal mandates to pay for Medicaid, welfare, and K-12 education, and finding revenues to meet law enforcement and transportation budgets. Medicaid for years has been the fastest growing item in state budgets, followed by spending on K-12 education. Together these two items now claim close to half of all state expenditures across the country. In ramping up spending on these two items, governors and legislators have necessarily taken into account the carrots (matching funds) and sticks (mandates and court orders) of federal policy. In view of federal policies and the hard-nosed politics in play in the states, it is not hard to understand why higher education has been squeezed out in the keen competition for state funds.
Mrs. Clinton would now hold out federal dollars to induce states to appropriate more funds for higher education, just as the federal government already does with Medicaid, welfare, K-12 education, and transportation projects. Her proposal would compel governors and legislators either to raise taxes to cover those added expenditures or to cut budgets in other areas — or, alternatively, to dispense with the federal funds altogether. The federal government has contributed to the budget crises in the states through its mandates and matching programs, and Mrs. Clinton now proposes to address that problem by adding still another mandate and matching program. This will only make a difficult problem worse, especially when the next recession intensifies the scramble among interest groups for scarce public funds.
Mrs. Clinton’s plan is undoubtedly one of the more inefficient ways through which we might address the student-debt problem. The major problem in higher education today is one of cost and expense, and only secondarily who pays for it (students or governments). American colleges and universities are highly inefficient enterprises that maintain scores of useless, duplicative, out-of-date, and politically correct programs for no other reason than that there are interest groups on campus that would protest if any of them were eliminated. Too many universities maintain masters and doctoral programs in fields for which graduates have no hope of finding jobs.
This is also true of many undergraduate programs currently in place. Most of those programs should be eliminated in the service both of long-run efficiency and educational integrity. Ideally, this kind of streamlining should take place state-by-state and campus-by-campus as governors, legislators, and academic leaders grapple with priorities and limited resources. It is a nagging problem that academic leaders, particularly in public institutions, should begin to address. Yet Mrs. Clinton’s plan would encourage them to put off the day of reckoning in the hope that all programs can be maintained with still another infusion of federal funds.
Mrs. Clinton proposes to pay for this program by (no surprise here) eliminating tax breaks and loopholes for the wealthy. Her main target is the charitable deduction, which (like President Obama) she proposes to cap at 28 percent for taxpayers in the highest- income brackets (individuals earning more than $200,000 per year and couples more than $250,000). President Obama, who has included this proposal in his annual budget proposals for the past five years, estimates that such a measure would bring in an additional $320 billion to the U.S. Treasury over eight years (another dubious claim). Ironically, in proposing such a measure, Mrs. Clinton is likely to provoke opposition from academic leaders who rely upon generous contributions from wealthy donors to fund scholarships, new buildings, and important research programs.
Mrs. Clinton’s approach is a typical kind of Democratic plan that relies upon subsidies, higher taxes and more spending, and cost-shifting among participants in the higher-education industry. It will do little or nothing to encourage restructuring or cost-cutting among institutions of higher learning. It stands in contrast to the approach taken by Sen. Rubio, who proposes to overturn the accreditation system to allow more participants into the industry, thereby encouraging competition among providers and eventually lower costs to consumers. This is the kind of debate we should have over the future of higher education – between those who wish to prop up the current system and those who propose to introduce competition into the industry as a means to restructure and reorganize it. If it does any good, then Mrs. Clinton’s proposal may provoke such a debate.