Government Discrimination In Student Loans
Over on his Reuters blog, Felix Salmon has a post today pondering the difficulties that some graduates are having dealing with huge amounts of student loan debt. He says that it can sometimes be hard for students to grasp just how much they're borrowing when amounts turn out to be astronomical. I agree. He also provides a good example and concludes that the government should be more selective about who it gives student loans and for how much. This sounds nice in theory, I just don't think it could ever happen.
His example comes from a Wall Street Journal article that talks about a graduate from University of Pittsburgh Law School named Lillian Russell who has accrued $181,000 in student loan debt. She is now having trouble finding a high-paying lawyer job, and consequently might have trouble making large student loan payments once her grace period is over. Salmon writes:
Realistically, most graduates from the University of Pittsburgh law school are not going to waltz into $160,000-a-year jobs: Russell's experience, where she's clerking for something close to a normal living wage, is surely quite normal. It's ridiculous that colleges can charge pretty much whatever they want, and the federal government will always be there to provide loans. One good way of decelerating the inflation in tuition fees -- and the concomitant rise in student debt -- will be for the federal government to start getting much stricter about the kinds of sums it's willing to countenance.
I completely agree with Salmon. But I also think that, as long as the federal government provides student loans, his vision will never come to fruition. I don't think that the government can discriminate in the way that Salmon and I might like it to, because the government tends not to do discrimination. This is the inherent problem with its involvement in something better left to the private sector, like loan underwriting.
Think about what this would mean. The government would receive a loan application from a potential college or graduate student. What criteria would they use to determine funding? Presumably they would want to estimate the likelihood the applicant would be able to pay back the loans. Such factors they might consider could include prior academic record (to establish potential academic talent and ambition), school ranking (how good a job might the applicant get), intended career (earning potential), geographical location (job prospects, cost of living), etc. That means that the federal government might be more likely to provide $100,000 in loans to someone studying engineering at MIT than to an English major at Notre Dame.
And then there are likely other factors that the government would have to take into account for political reasons, which would entirely skew the decision from a loan underwriting perspective. Would preference be given to underrepresented minorities? Does family income matter? I'm extremely skeptical that it would do a good job in making reasonable underwriting decisions due to such unavoidable political conflicts.
I'm not sure we want the government making those kinds of value judgments, which is why I think it's hard to support any system other than the one we have now, where it gives as much in loan money to whoever wants it.*
Of course, if these were private student loan firms instead of Uncle Sam, then it would be an entirely different story. Credit card and mortgage companies, for example, should feel free to discriminate based on potential to pay back borrowing. They do that every day.
Greater private involvement and less government involvement in the student loan market would also bring down education costs, a goal that interests Salmon. If private universities -- particularly less prestigious ones -- could not find enough students to pay their outrageous tuitions, they would have to charge less.
*I wanted to clarify based on some comments. I got a little carried away in implying that the government would loan students unlimited amounts of money. That's not accurate. There are limits, though I would argue that those limits are still too high.
I don't think this changes my argument much, as the idea that the government should be more selective, but probably can't since it's the government, still holds.
Also, I would add that the government's dominance in the student loan market affects the private market for student loans. It makes credit easier, just as it did in the mortgage market through Fannie and Freddie. It's not exactly analogous, but there are similarities. So I'm not sure that the private student loan lenders would be so free with their credit if the government didn't set the standard.
Finally, I appreciate a few commenters who aptly point out that the private lenders don't always make the best decisions either. It's definitely the wrong time in economic history to argue otherwise. Still, they at least have more of an inherent ability to discriminate, which is what they should be doing. They can also to pull back once they realize they've made a mistake -- a luxury the government doesn't generally have. Anyone with bad or mediocre credit who has tried to get a mortgage in the last year can probably attest to this.