The Government's Reckless Student Lending is Creating a Budget Hole Akin to the 2008 Crisis, New Analysis Shows


There’s no doubt that federal student loan programs were created with good intentions. Advocates wanted to help more young Americans pursue a college education and achieve social mobility. But the unintended consequences of short-sighted federal intervention into the higher education market are growing ever more apparent by the day.

Ample research already documents the way that federal subsidization of student loans has led to rampant tuition price inflation. 

Per CNBC, private colleges have seen 129 percent price inflation since 1988 in inflation-adjusted dollars. At public colleges, prices have more than doubled over the same period. By handing out student loans like candy on Halloween, the federal government artificially inflated demand—thus encouraging and enabling tuition hikes.

For instance, research published by the New York Federal Reserve found that every dollar the government gave out in subsidized loans led to a 60 cent rise in tuition rates. And a Harvard study comparing higher education programs that accepted federal aid to those that did not found that tuition at aid-accepting programs grew much faster.

But new reporting reveals another giant problem plaguing the federal student loan regime. The Wall Street Journal reports that the government is set to lose nearly half a trillion in taxpayer dollars from student loans that won’t be repaid. This gaping hole in the budget is nearly as much as banks lost from subprime mortgages in the 2008 financial crisis.

“The Education Department, with the help of two private consultants, looked at $1.37 trillion in student loans held by the government at the start of the year,” the Journal reports. "Their conclusion: Borrowers will pay back $935 billion in principal and interest. That would leave taxpayers on the hook for $435 billion.”

“After decades of no-questions-asked lending, the government is realizing that it has a pile of toxic debt on its books,” the report continues. “The government lends more than $100 billion each year to students to cover tuition at more than 6,000 colleges and universities. It ignores factors such as credit scores and field of study, and it doesn’t analyze whether students will earn enough after graduating to cover their debt.”

Think about it like this. In the free market, banks do their best to ensure they lend money to prospective borrowers likely to repay the loan, yielding a net positive return on their investment. Banks that do this successfully stay in business, while those who repeatedly misjudge their borrowers go bust.

As the Journal’s Josh Mitchell explains, “Since the financial crisis, private lenders typically originate loans only to borrowers with clean credit and require cosigners, and default rates are far lower than on federal loans.”

Government student loan programs simply have none of the right incentives. Economic analysts from across the political perspective have noted this reality. 

“There’s no market discipline here,” former Obama official Constantine Yannelis told the Journal. “In 2007-2008, we saw a lot of lenders who were making risky bets going under. There’s no force like that in the student-loan market.”

“We make no attempt to evaluate the quality of the borrower, the ability to repay, the effectiveness of the loans,” American Action Forum president and right-leaning economist Douglas Holtz-Eakin noted. “The taxpayer ends up picking up the tab.”

And it’s going to be quite the bomb in the federal budget when the loan program implodes. Taxpayers like you and me are going to be stuck with the $435 billion bill for the federal government's reckless financial decisions. To put this figure in context, it’s roughly $3,000 out of the pocket of every federal taxpayer. 

This is just the impending financial burden of the status quo. It does not take into account various proposals to “cancel” student debt, all of which would further increase the burden taxpayers will have to pick up.

There’s a clear lesson we can take away from this dysfunctional outcome. Government programs and initiatives will always lack the profit motive that drives efficiency in the private sector. The lack of market forces will inevitably lead to waste and reckless spending.

Economist Ludwig von Mises wrote about this phenomenon in his work Bureaucracy

“A bureaucracy… is missing the feedback so essential to capitalist success,” Sheldon Richman wrote in summary of Mises’s argument. “It gets its revenue not through the free choices of consumers, but rather from coerced taxpayers who must pay for ‘services’ whether they use them or not, or like them or not.”

“As a result, a bureaucracy has no need to please consumers and faces no profit-and-loss test,” he continued. “It cannot calculate as a business can.”

Mises’s warning is timeless, and it applies here perfectly. The implosion of the federal student loan program does offer yet another reminder why bureaucratic government interventions are always less efficient than free markets.



* This article was originally published here
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