why the debate over student loan interest rates is focused

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The current debate over student loan interest rates is a prime example of the folly of our national policy. Leaving aside differences in how Democrats and Republicans would pay to maintain this questionable subsidy, both sides are working to appeal to students in this election year by keeping interest rates low while ignoring the economic reality that this move will further increase student debt and could lead to higher tuition fees as well.

How did we get to this perilous place? The answer lies in the desire of politicians not to offend key ridings, no matter how much it may cost in the short term and no matter how much it may improve things in the long term. And now, keeping interest rates low is making it even more difficult to carry out the kinds of student loan reforms we need to put the system on a solid footing for the future.

This particular story begins in 2007 when a Democratic-led Congress and a Republican administration agreed to halve the interest rate on federal student loans that the government pays interest on while borrowers stay in school, from 6.8% to 3.4%. As Rick Hess of the American Enterprise Institute recently noted, some analysts warned five years ago that halving the interest rate would lead to complaints that the loan burden has grown too great and arguments that the lower rates should therefore be maintained. Now that the time has come to renew or abandon the provision, those predictions are coming true.

Some of us also believe that the immediate availability of student loans helps explain why tuition fees continue to rise, as it makes institutional leaders feel more comfortable that students and parents will be able to. to pay those higher tuition fees. Keeping rates low going forward will only continue this trend.

But when faced with the question of whether keeping interest rates low will help or hurt, both political sides are making some really stupid answers. For example, Education Secretary Arne Duncan was recently asked whether scholarships and student loans have contributed to the rise in tuition fees over time.

Here is his response: Over the past 20 years, Pell scholarships have increased in some years and not in others, while tuition fees have increased every year. Therefore, federal aid had not been a factor in the growth of tuition fees. I happen to agree with the secretary that the Pell Grants have not contributed much to the growth in tuition fees, albeit for a very different set of reasons. But looking at how many years aid has increased or decreased is not a very convincing element of analysis. He wouldn’t get a passing grade in my education policy class.

But more tellingly, the secretary was silent on the possible impact of student loans on tuition fees, where there is much stronger evidence of at least one correlation between amounts borrowed and prices and where the analogy with mortgages and mortgage interest deduction affecting house prices is difficult. ignore. Do administration officials and other student loan advocates seriously believe that the huge amount of student debt in this country has absolutely nothing to do with rising university fees?

Of course, Republicans don’t do any better on the honesty and consistency meter. Presidential candidate Mitt Romney recently blessed the Ryan budget – he called it wonderful. Still, it contained a provision not to keep the interest rate lower, and when the pressure came on last week, Romney said he supported lowering interest rates so as not to offend a constituency. key election in the fall.

As I argued in a previous article on Inside higher educationIt is important for government officials to recognize that public policies have contributed to the growth of college costs and prices rather than simply destroying colleges and universities. It is irresponsible of politicians to say that it is all your fault – we have nothing to do with it – when they adopt policies such as keeping student loan interest rates well below levels. market equilibrium, then express surprise when borrowing continues to explode. .

The irony here is that the lower interest rate only applies to federal student loans on which the government pays the interest while the borrower is in school (the interest rate on unsubsidized loans is already 6.8 percent). Thus, keeping rates low during the school period has no effect on the amount students pay during their studies or on the cost to the government of granting these loans, either directly or in the form of guarantees to private lenders. .

And a number of observers have pointed out that the change in the amount of monthly payments after borrowers leave school and start repaying is relatively small, but it comes at an annual price of $ 6 billion. I would join other critics in arguing that there are much better ways to spend this amount of taxpayer dollars – or use it to reduce the deficit rather than increase it.

It’s also worth noting that the United States is far from the only country to bow to students when it comes to loans and interest rates. New Zealand once had what some of us considered to be one of the best-designed student loan programs in the world, as it combined relatively low levels of government grants with repayment arrangements that kept graduates from low. income from having to spend an unhealthy proportion of their income to pay off the student loan.

But in two successive national elections in the 2000s, to win student votes, the Liberal government there first eliminated school interest, then banned interest over the life of the loan. Now that a Conservative government is in place, this advantage is considered sacrosanct. A similar story unfolded in England, where substantial loan subsidies distort a range of higher education policies there, including the government’s reluctance to allow institutions to grow beyond funded levels even without support. operational government.

The absurdity of our current policy is not limited to the question of interest rates either. For example, the Obama administration says that everyone should have the opportunity to go to college and that we need to increase college completion rates to stay competitive globally. But he doesn’t seem to realize that without a change in policies, more people are attending and graduating from college. increase considerably the amount of student debt, not reduce it. So the message is, “We’re really worried about all this student debt, but we think it’s good that people keep borrowing because college is on average so valuable.” “

The problem here is that not everyone enjoys the same way of going to college and this is how many people end up with levels of debt that they cannot afford to pay off. The income-tested repayment policies, which I support, certainly help these students, but instead they add to the debt because there is less concern about the impact of high debt.

The point is that keeping the interest rate low, while having many advantages, will also result in more borrowing than if the rates were higher. So we are trading even more debt for better repayment terms – which may or may not balance out to mean lower repayment levels. At the end of the day, we need to find ways not to force students to borrow more and more to go to college, which is why I think colleges and universities need to have their skin in the game, either in theirs. forcing them to share the risk by paying a fee on every loan their former students don’t repay, or forcing institutions to offer discounts to their borrowing students so borrowers don’t pay the full price of the sticker.

All of this suggests to me that what makes sense now because of election year politics is to get a one-year extension of low rates with the promise of bringing student loan reform into the framework of a necessary revision of the law on higher education next year. And that review must also include an in-depth look at the Pell Grants, where funding has tripled in three years and one in two undergraduates now receives a Pell Grant. Rationality must come into play at some point if we are to make sense of our national higher education policies.

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