When the housing crisis hit in 2009, it came at the end of a decade-long binge in which low interest rates combined with rising home values, leading borrowers to take on more and more debt, confident that their homes were assets, not liabilities. The more home costs climbed, the more credit consumers demanded to buy them and the less scrutiny went in to their ability to pay back the loans.
The next credit bubble may be higher education, argued at least one panelist at a discussion held at the American Enterprise Institute earlier this month.
All the markers of a bubble are there, argued the panel’s moderator, Alex Pollock, a resident fellow at the American Enterprise Institute in Washington, D.C.
“Pushing credit at any sector makes its prices rise,” Pollock said, “and rising prices, like college costs, lead to cries that since costs are now rising we need more credit and easier credit.”
Not everyone at the panel agreed that a credit crisis is brewing. One panelist argued that the real data show student debt is sustainable. Two others suggested alternative lenses that help clarify the real problems, including the high debt for dubious graduate degrees and any debt for no degree.
A vicious cycle
Easy student debt creates a vicious cycle, Pollack argued, which induces borrowers to borrow ever more while providers have no incentive to control costs.
The problem becomes more acute, Pollack said, if there are powerful players at the table who “get the cash from the loans but have no risk at all if the loans default.” The powerful players, in this case, would be the colleges and universities themselves, which cannot function without student debt but bear no share of the risk if it is not repaid.
The New York Federal Reserve Board, Pollack noted, recently reported that student loan “measured delinquency rate,” or the percentage of loans that are 90 days or more overdue, is the “highest of any consumer debt product.” In 2012, the delinquency rate for student loans stood at 17 percent, the New York Fed reported.
But the “effective delinquency” is far higher. Effective delinquency only includes the loans that are actually being repaid, but 44 percent of borrowers in 2012 were not making payments on their loans at all, through various forms of forbearance. The effective delinquency rate for those actually required to make payments was 30 percent. That 30 percent, Pollock notes, is identical to the delinquency rate of subprime mortgages at the worst part of the housing crisis.
Quite a different picture came from Matthew Chingos of the Brookings Institution. Chingos and his colleague Beth Akers released a data-heavy report last week on student debt.
Chingos and Akers looked at households led by people between 20 and 40 years old, the prime student debt repayment ages. They found that average balances for people with debt have gone up, Chingos told the AEI audience. Adjusting for inflation, the mean debt load went from about $6,000 in 1980 to about $17,000 in 2010.
Among households where one person has a graduate degree, however, the average debt load increased from $10,000 to $40,000 during that period, confirming the consensus in the room that graduate education is a debt hot spot.
He also noted that the share of households that carry debt with “some college but no degree” rose from 10 percent to 40 percent, and the average debt levels for this group have doubled.
Chingos and Akers also concluded, in a finding that somewhat surprised them, that both income gains linked to education and longer repayment periods have made the growing burden sustainable.
The average monthly loan payment, Chingos said, has remained 4 percent of the borrowers monthly income for the past 20 years. There are also fewer people paying a high ratio of their income to student loans today than in the 1990s.
“It doesn’t mean there aren’t any problems,” Chingos said, “but it should cause us to rethink our mass hysteria.”
Grad school blues
A huge part of the problem, said Jason Delisle of the New America Foundation, a Washington, D.C., based think tank, centers on graduate school, not undergraduate loans. Nearly all of the student debt horror stories of $100,000 loan tallies, he argues, are acquired in graduate school, often in the pursuit of master’s degrees of dubious value.
“Graduate school debt is usually overlooked or lumped together, as if graduate school is part of the college access story,” Delisle said.
He cites Nicole Preucil, profiled in the Wall Street Journal last fall, a 23-year-old with $60,000 in student debt. But it turns out that just $10,000 of her debt came from an undergraduate degree. The remaining $50,000 came from her master’s in social work.
Delisle calls these “boutique master’s degrees,” and says that the subway walls in New York City are thick with advertisements, often offering worthless master’s degrees that seem aimed at bored commuters looking to escape the grind. There are far too many of these graduate programs, he says, accepting too many students and offering too little in the way of outcomes.
Federal loan policies that allow unlimited loans for graduate education up to the cost of tuition and living, Delisle argued, are a huge problem. This allows schools to raise tuition as long as students sign on for the debt. If grad school loans were capped, he argued, students would have to seriously consider tuition costs, and we would see less debt burden for sketchy degrees.
“It’s as if there were open enrollment graduate school,” Delisle said. “And the government lets students go with no questions asked.”
The kicker, Delisle adds, is that Nicole will probably be paying back just a fraction of that $60,000. Because she is in a public service field with low salary levels, she will be offered very generous monthly plans tied to her income and her loan will be forgiven after 10 years, a perk allowed for public service workers. Private sector employees who qualify can write off their debt in 20 years by paying back a fixed percentage of their income.
“Can you imagine if you were to buy a house, and then pay it back based on your income and have it forgiven after 20 years, how much house would you buy?” Delisle asked.
The real victims
While Delisle focuses on excess grad school debt, Andrew Kelly’s concerns lie on the other end of the spectrum — those who take on college debt but never earn even one degree.
Kelly, like Pollack a fellow at the American Enterprise Institute, says that the discussions of college debt too often compare college graduates to high school grads. Too little attention, he argues, is offered to those who acquire debt going to college but don’t graduate.
Kelly cited a recent study by Beth Akers of the Brookings Institution, which shows that those with some college/no degree disproportionally struggle to pay their student loan bills on time. The average default on student loans actually comes from small debt levels. Many of these, Kelly said, never graduated at all.
Those with no college degree have about the same income whether they have some college with debt or simply went straight to the workforce, Kelly said, citing data collected by researchers at the Pew Charitable Trust, but those without college who carried debt had much, much lower net worth.
Kelly thinks one reason may be that students who don’t graduate take time off for their studies, losing wages while building debt. The two combined drag down their net worth even as their incomes stagnate.
If going to college and acquiring debt but not graduating lowers your net worth, compared to those who don’t go to college at all, then the graduation rates of colleges that push debt are an urgent public policy matter, Kelly said.
“The major design flaw in federal financial aid,” Kelly argued, “is that it subsidizes any program at any institution at any price.”
Around 37 percent of loans given to undergraduate students, Kelly said, flow to schools with graduation rates of less than 40 percent. For-profit schools are a big part of the problem, Kelly said, but a large chunk of these problem schools are actually public nonprofit colleges.
Bailing out borrowers after the fact is not really an answer, Kelly argues. It may even make things worse.
Instead, Kelly would like to see more consumer information. For example, parents and students should know the graduation rates of schools before they apply, and disclosure of those rates should be part of the application process.
He would also like to see colleges assume some “skin in the game,” making them share the risk for students who fail to finish or get jobs after graduation, though he recognizes that colleges may then get more selective, making access more difficult for high-risk students.