College loan conundrum

If you’re trying to predict which bubble will burst next, don’t rule out student loans. U.S. student loan debt stands at nearly $1.4 trillion, and more than half of all student borrowers do not repay their school loans in full. Is there a fix for this mess?

Some student loan defenders claim the market isn’t as sickly as it looks. The government makes money on student loans, the reasoning goes, and students who obtain college degrees earn an estimated $20,000 a year more than those who don’t.

Although college graduates do earn more, the claim that the loans are profitable isn’t true: The Congressional Budget Office recently projected that the government will lose $170 billion from its student loans over the next decade. The only way to spin these losses into profit is by using fuzzy math—assuming there isn’t much difference between getting a dollar today and getting that same dollar 10 years from now.

The $170 billion cost is only the beginning. The easier it is to borrow, the easier it is for universities to jack up their prices. And so they’ve done. Tuition at public universities is 94 percent higher today than in 2000. Recent studies suggest that for every one-dollar increase in the average student loan amount, tuition rates increase by 55 cents.

Bernie Sanders’ solution, later endorsed by Hillary Clinton, was simply to make tuition free at all public universities. That’s one way to reduce the need for student loans. But it’s a little like saying the solution to our $170 billion hole is to dig an even bigger hole (at $70 billion per year, by the Sanders campaign’s own estimate).

Getting the government out of the student loan business and relying solely on the private market would be better, but that approach also has problems. Student loans are a dicey proposition for private lenders if the government doesn’t guarantee repayment. Most students don’t have assets they can offer as collateral, so lenders often insist that a parent or someone else co-sign the loan. Students from wealthier families would be more likely to get loans. If we want everyone to have a fair shot at a college education, the government needs to stay in the loan business.

The most interesting outside-the-box proposal for reforming the student loan market would base students’ repayment obligations on their post-college income. Former Federal Deposit Insurance Corporation chairwoman Sheila Bair has endorsed this approach, as have others.

Income-based repayment would require students to devote a fixed percentage of their income—say 10 percent—to repayment. Their payments would rise if their income rose, fall if their income fell, and stop if they lost their jobs. This would provide relief to laid-off borrowers without discouraging them from finding jobs. (The government currently offers income-based plans to some students, but they have to reapply every year and can’t be sure of qualifying.)

Income-based repayment does have a few warts. Unless the government offers loans only to students who seem likely to have a robust postcollege income, the repayment scheme might not shrink the $170 billion hole. This could put the government in an awkward position: If it lent to anyone, regardless of their future prospects, the hole could grow—but if it made more loans to engineering or business students than to literature students, it would face public outrage.

Also a risk: Some student borrowers could try to cheat the system by reporting less income than they actually earned, thus reducing their loan payments. This would be immoral and illegal, of course, but some might give in to the temptation.

There’s no great solution to the student loan mess. But income-based repayment may be worth a try. It would solve some of the current system’s problems and would be a lot more realistic than assuming the government can pay for everyone.