Federal efforts to alleviate the high and rising cost of attending college through student loans have morphed from a policy challenge to a fiscal time bomb threatening to blow up the financial future of tens of millions of Americans and the government’s own solvency. Dressed up as a progressive achievement, it is actually a failure – or more accurately, at least five intersecting failures. And the worst part is this: they would all be hard to fix — even in a “normal” political era.
The scope of these programs is enormous. More than 44 million Americans (about one in four adults) have student-loan debt totaling $1.5 trillion and rising. This debt is incurred (and encouraged) through a handful of U.S. Department of Education (DOE) programs for which public and private institutions constitute a powerful lobbying force. Here, I can discuss only five of the programs’ failures:
1) their unsustainable cost trajectory;
2) the immense debt burdens they impose;
3) high college dropout rates;
4) DOE’s relative neglect of career and technical education (CTE) which would better serve many of the neediest;
5) programs’ perverse targeting and incentive patterns, which magnify all of these problems.
DOE’s Unsustainable Cost Trajectory.
The loan programs charge borrowers interest and fees, so they should be budget-neutral or even profitable. This feature made them politically popular for many years, but a major Obama-era policy change – the income-based repayment plan (IBRP) – has sharply reversed the budgetary trajectory. The IBRP became available to new borrowers starting in 2014-15. It allows qualified students to cap their monthly loan repayments at an amount geared to their income and family size; Obama further lowered that cap to 10%. A 2017 DOE financial report, analyzed by the Wall Street Journal, projected a $36 billion shortfall, up from an $8 billion shortfall just a year earlier. (IBRP’s fiscal effect will inevitably grow as more post-2014 borrowers take advantage of it).
Here’s the Journal’s bad news: “Federal data never before released shows that the default rate [for borrowers who started repaying in 2012] continued climbing to 16 percent over the next two years, after official tracking ended, meaning more than 841,000 borrowers were in default. Nearly as many were severely delinquent or not repaying their loans (for reasons besides going back to school or being in the military). The share of students facing serious struggles rose to 30 percent overall.” This, in a period of (slowly) rising incomes and job growth.
By law, DOE must track default rates for only the first three years, yet this is only the tip of the iceberg: delinquencies increase sharply starting in year 4, and DOE’s reports do not include borrowers who are “severely delinquent” or “not repaying the loans.” The number of schools experiencing high default rates by that post-2012 group has also increased dramatically, fueled vastly and disproportionately by for-profits. Even these default rates will presumably rise; more schools now urge students to use options that temporarily suspend repayments, accumulating more interest and simply postponing the day of reckoning. Student loans have the highest delinquency rates of any federal credit program, and higher than for private auto, home equity, and mortgage loans. The New York Fed emphasizes that this actually understates the delinquency problem because of students’ deferred payment obligations.
Borrowers’ Debt Burdens
The statistics are scary. Students owe about $1.5 trillion – about $620 billion more than the total U.S. credit-card debt. The debt of the average Class of 2017 graduate was almost $40,000, up 6% from the previous year’s cohort. And this burden is greatest for lowest-income students eligible for Pell Grants; their loan debt is higher on average than for higher-income, non-Pell students. As college tuition inexorably rises – for public four-year institutions, more than doubling in constant dollars in the last 30 years, and roughly 5% a year in the last decade – debt burdens will increase accordingly, particularly for lower-income students who attend for-profit colleges such as the immense University of Phoenix (over 160,000 students on 38 campuses). According to the Hechinger Report, almost 80% of these students who had dropped out three years earlier had not yet repaid a cent of principal on their federal loans.
High College Dropout Rates
These burdens might be sustainable if borrowers were to graduate and then earn at levels reflecting their new credentials. But the reality is altogether worse. Only 57% of college students graduate from any institution within six years of entering. (Another 12% of that cohort are still enrolled after six years). Nearly one-third – disproportionately low-income, first-generation, and minority students – drop out entirely, carrying their student loan debts with them. Importantly, those who later transfer to a 4-year institution are not counted as dropouts. Dropouts are stunningly high at public community colleges (62%) and at 4-year for-profit colleges (64%). Unsurprisingly, dropout rates of 4-year public and private nonprofit institutions are much lower, reflecting the institutions’ greater resources and their students’ more prosperous families and better prospects.
The much higher dropout rate at for-profit institutions has various causes, including poorly-prepared and lower-income students, many who must simultaneously hold down jobs, and fewer support services for at-risk students. But an important factor is the well-documented fraudulent practices at many of these schools, practices that the DOE recently proposed to protect by easing “gainful employment” disclosure rules.
Fraud by Educational Institutions and Borrowers
The student loan programs have long been rife with fraud, which seems only to have increased since the Obama administration took over the programs from the private sector (although private for-profit agencies still do much of the collection and other work). Not all of the documented fraud is perpetrated by private for-profit institutions and collection agencies; some are by student borrowers and even Pell grantees. Indeed, in 2013 the DOE’s inspector general reported that this fraud included over 34,000 participants in crime rings. The Obama-spawned IBRPs, which include loan forgiveness options, have surely enabled more fraud. Just since 2015, the DOE has received more than 100,000 fraud complaints; according to a recent review cited by the New York Times, “almost 99% involved for-profit institutions.” The Trump DOE, widely criticized for weak enforcement against these schools, which Secretary Betsy DeVos is keen to promote, recently proposed new “Institutional Responsibility” regulations purporting to curb some of this fraud but, according to critics, will actually make fraud harder to combat.
Neglect of CTE in Favor of Higher-Status Education
In our cosmopolitan world, one can easily forget that most Americans lack even a community-college diploma. Yet federal (and state and local) student loan programs largely neglect CTE and other intensive work-focused vocational programs, instead emphasizing higher-level, campus-based institutions. The economic returns of a college diploma are certainly large, and unemployment risks are lower: a 2015 Georgetown study found that workers with a bachelor’s degree earn $1 million more over their lifetimes than those with only a high-school diploma, even though the latter has a four-year head start. (This is on average; field of major matters a lot). But many of the student loans go to art, music, and design students who carry a disproportionate debt load while facing limited future income prospects.
College is not the best choice for everyone, especially when one considers its high cost (including the opportunity costs during those four years), the substantial probability of dropping out along the way, and the consequent waste of much of the money expended (depending on the value of the foreshortened college experience), the interest paid on the loans, and the debts’ limiting effect on their future ability to obtain loans and thus life choices. Importantly, Oren Cass points out, “A college degree is neither necessary nor sufficient for reaching the middle class. The wage and salary distributions for college graduates and high school graduates overlap significantly; high-earning high school graduates in a wide variety of fields that require no college degree earn substantially more than low-earning college graduates.”
Yet, despite the strong arguments to enlarge CTE opportunities for those who reject or drop out of college, all levels of government fail to support this alternative path significantly. Washington spent only $1 billion on CTE in 2016, compared with more than $70 billion subsidizing college attendance; much the same is true of state and local governments. CTE programs vary in their effectiveness, of course, but we have seen that the same is true of higher education institutions and the loan programs that support, and in many cases, sustain them, including the worst ones.
Perverse targeting and Incentives
Federal student loan programs are a classic example of distributive politics: coalitions designed to concentrate benefits while widely dispersing costs. Typically, relatively few of the subsidies go to low-income families; instead, they tend to go to the better off. Nor is it clear that this taxpayer-provided subsidy actually affects educational attainments in general. Those who receive them would likely have attended college even without them; the IBRP tends to benefit high-earning people who can carry high debt, which is one reason that politicians across the political spectrum use the loan programs to appeal to middle- and upper-class voters. And as the Wall Street Journal editorialized in 2013, IBRPs increase moral hazard, incentivizing delinquency: “Take out a big loan, work 10 years for the government repaying as little as possible, and then have your debt entirely forgiven. . . .Borrowers who enroll in [such] plans owe on average three times more than those who opt for the standard 10-year amortization schedule. They thus present the greatest risk to taxpayers.”
Consider several other perverse incentives of these programs. They encourage schools to raise tuition and fees — they nearly tripled over the last 20 years (rising much faster than wages) – thus reducing access. They also encourage institutions to substitute federal money for their own financial assistance, thus reducing the programs’ net effect. Also, the programs (along with other federal and state rules) may have contributed to the doubling of the administrative staff-student ratio since 1975, during which the faculty-student ratio has changed very little.
Program redesign could reduce some of these perverse incentives. Remarkably, however, little rigorous policy assessment of the loan programs’ effectiveness and tradeoffs has been done — perhaps because of the powerful constituencies that support the status quo, favoring only changes that expand initial access to programs, regardless of the dire longer-term effects on so many students. Secretary DeVos’s mission to further weaken already negligible enforcement against the for-profit sector is only the most recent example.
As more prosperous Americans pull further away from those seeking a chance to educate themselves or their children into the middle class, the federal government must fundamentally reform student loans so that they reduce disadvantage instead of multiplying it.