Forgiving student debt doesn’t actually solve the root of the problem

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Bernie Sanders and Elizabeth Warren have proposed forgiving student debt. Naturally, that is somewhat popular and garnering a lot of attention because free stuff is fun and having the government give out free stuff is also very controversial.

Where do I sit on this issue? Well, it’s a complex one, but I’ll try to condense my thoughts.

The student-loan market is $1.6 trillion spread over 44 million people. That’s an average balance of about $36,000 and a median balance of about $19,000 (note one, at end of article). In terms of broader household debt, student loans are a relatively small piece of the pie at only 10% of household debt.



An interesting trend is the recent slowdown in the growth rate of student loans. The financial crisis had a significant impact on student loans as it became increasingly evident that more education was the answer to the financial woes that many were undergoing. So while student loans surged in the post-crisis period, the growth rate has rapidly slowed, which is evidenced in the flatlining in the chart above.

The reason that student loans surged in the post-crisis period is simple: College is worth it for most of the borrowers. According to the New York branch of the Federal Reserve, college graduates earn 80% more than high school graduates. A study from Georgetown University (probably the finest school in the world, in my unbiased opinion) showed that the top majors will ultimately earn $3.4 million more than the bottom majors. In other words, all student debt doesn’t lead to the same outcomes. The argument for education is even stronger for master’s degrees. According to the Bureau of Labor Statistics, the wage premium for a master’s degree is 36%-89% over a bachelor’s degree.

So the math here is pretty simple. Total college costs are about $24,000 a year on average, and the average college graduate is taking on about $19,000 in debt to earn $66,500 vs the alternative of having no debt and earning $37,000 with a high school degree. Even with the rising cost of college and student loans, the wage premium from college is a no-brainer.

One interesting thing I didn’t realize before studying this topic is that we’re talking about a small part of the U.S. population here. Only 50 million Americans have a bachelor’s degree. That’s about 15% of the U.S. population and 19% of the civilian noninstitutionalized population. So when we talk about student loans, we are talking about a small part of America’s future upper-middle class and upper class (note two, at end of article).

That said, the concern here is that the earnings of the graduates are uneven. So student loans are disproportionately burdensome upfront when the graduate can least afford it. According to some studies, this is suppressing gross domestic product (GDP) and negatively impacting social outcomes.

A solution in search of a problem

When I criticized quantitative easing (QE) and the bank bailouts relentlessly in 2009-2010, I did so not because I thought they were inherently bad programs, but because they didn’t actually solve the problem we were confronted with. And I am applying the same general thinking to student loans.

The problem here (if we can say that earning 80% more than two-thirds of the U.S. population is a “problem”) is that forgiving student debt doesn’t actually solve the problem. The problem, after all, is the high cost of college. In fact, if you cancel student debt, the strong likelihood is that the cost of college will rise in the future, since the smart borrower will simply increase their demand for college with the knowledge that it will be forgiven.

Further, debt forgiveness of this type is a very bad precedent with all sorts of moral hazard. Where do we draw the line? Should I get a refund on my years at Georgetown University because I am that much poorer than I’d otherwise be? Should current borrowers all stop paying their loans in anticipation of future forgiveness? And, wait a second — if you think student loans are a big problem, then what about the $9.2 trillion mortgage-debt market. Shouldn’t we consider forgiving all that debt as well since it covers a much broader subset of the American population? I kid, of course. But you can see that the actual logistics of implementing this policy is easier said than done.

A logical solution

There’s an interesting precedent for the student-loan market that makes a lot of sense to me. In Australia, you don’t pay your student loans until you reach a certain income level. And you don’t pay any interest. This would seem to solve a lot of the problems expressed by the pro-forgiveness crowd without going down the “everyone gets a free pony” rabbit hole.

The bottom line

The bottom line is that there isn’t a “crisis” in student debt. Not only is it a fairly small portion of the household debt market, but it is made up of people who will be America’s future upper-middle class and upper class (note three, at end of article). Further, forgiving student debt doesn’t actually solve the root of the problem, which is the high cost of college (which is expensive because it’s worth it) and could actually make that problem worse.

But, most importantly, it seems like we can have our cake and eat it too. We can attack the real concern here (the disproportionate manner in which student loans hurt graduates when they can least afford it) by enacting policy that is more directly tied to incomes without the interest burden that can make student loans so harmful.

Notes:

1. EBRI, Student Loan Debt: Trends and Implications, 2018.

2. Forty percent of student loans are held by graduate students, which means that a student debt forgiveness plan is a significant handout to the upper class since these people will earn about 150% more than high school graduates on average.

3. The delinquency rate of 11% on student debt is a fairly small part of an already small part of household debt. But more importantly, even if all 11% of these delinquent borrowers were to default, it would be equivalent to less than 1% of GDP.

Cullen Roche is the author of the Pragmatic Capitalism blog, where this column first appeared. Follow him on Twitter @cullenroche.





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