The Next Big Bailout: Student Loans

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Published June 03, 2014

| FOXBusiness

As tuition costs continue to rise and students take on more debt, some policy experts say another taxpayer bailout of a teetering government-subsidized program -- the massive student loan industry -- is all but certain.

The numbers are startling: there is $1.11 trillion in student loans outstanding and $121 billion of them are 90-plus days delinquent or in default. Making matters worse, college costs are rising and incomes, particularly for college grads in industries other than technology and finance, are falling.

It’s a recipe for the same type of implosion and eventual government assistance directed to homeowners with delinquent mortgages and banks in the aftermath of the 2007 and 2008 housing meltdown and subsequent financial crisis. Access to cheap lending spurred by government incentives and subsidies from mortgage lenders Fannie Mae and Freddie Mac drove housing prices to bubble-like proportions until many borrowers discovered they couldn’t make good on their loan. Now, similarly easy access to college loans has both inflated tuitions and made college grads a new debtor class, economists say.

Economist Douglas Holtz-Eakin, President of the American Action Forum, says the impact of increased indebtedness and the inability of college grads to repay loans (some are saddled with college debt of as much as $200,000) has already sparked a series of small-scale taxpayer-financed bailouts by the Obama Administration that he says will grow over time.

“The Obama administration has steadily increased the forgiveness and income-based repayment features, which are all ways to relieve the borrower of the obligation to repay in a timely fashion, if at all,” said Holtz-Eakin. “There already has been a government bailout (of student loan programs),” he added.

Student loans are a heavily subsidized business; banks had handed out student loans that were guaranteed for repayment by the federal government, helping ensure that students paid low interest rates and banks had no risk of a default. Since 2010, the federal government has largely pushed banks out of the business and began doling out money directly through the Department of Education.

The change, however, did little to relieve taxpayers of a possible bailout as college graduates find it more difficult to find high-paying jobs, particularly since the financial crisis of 2008. That’s why economists believe these bailout efforts are likely to grow in size and scope. The share of 25-year-old Americans with student debt increased to 43% in 2012 from 25% in 2003, and the average loan balance rose 91%, to $20,326 from $10,649, New York Fed data show.

In contrast, delinquencies for other forms of debt such as mortgages, credit cards, and auto loans have declined from their peaks, as it has become harder to borrow for those lines of credit.

Some in Congress, such as Senator Elizabeth Warren (D-Mass.), have argued that the student loan program actually generates a profit for the federal government because college graduates more often than not move on to better-paying jobs to repay their debt, or the federal government can at some point garnish wages and even withhold tax refunds to recoup losses.

But the non-partisan Congressional Budget Office said Warren’s numbers were misleading; in a report released last month, the CBO said rather than generating a profit, student loan programs will end up costing taxpayers $88 billion over the next 10 years. And many economists say the federal government has been lax in recouping money from delinquent borrowers.

And it’s only going to get worse, meaning that the government will have to ramp up its bailout efforts. Household debt from student loans has risen at a faster pace than any other form of household debt, according to a report by Goldman Sachs. Meanwhile, Warren recently introduced legislation that would let student borrowers refinance their existing student loans at interest rates that are even lower than those offered by the subsidized student loan programs, thus costing taxpayers money.

Warren’s solution: Increase taxes on the wealthy, namely on those in the highest tax brackets who already got hit with increased taxes as part of the last budget deal between president Obama and Congress.

A spokesman for Senator Warren did not return requests for comment.

However, the problem is so big that simply increasing taxes on the rich will not be able to make up for the deficit. “Bad loans are sitting on the balance sheet of the Department of Education and all taxpayers are at risk,” Holtz-Eakin said.

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