“Student Loan ‘Debt Bomb”; Obama’s Misguided Proposal and Mish’s Two-Point Alternative Proposal

It's interesting to watch some of the terms bandied about in headline news. For example, the LA Times headline reads S&P says student loan debt could be next financial bubble.

Next? Could Be?

What with the word "next"? Also what's with the words "could be"? Without a doubt student loans are in a bubble and have been for many years. The source of the problem, as it always is with financial bubbles, is cheap money, loans to nearly anyone, and in the case of student loans, no way to discharge the debt, even in bankruptcy.

From the article …

"Student-loan debt has ballooned and may turn into a bubble," S&P said. "There are more defaults and downgrades for some student loan asset-backed securities."

Federal and private student-loan debt is approaching $1 trillion and surpassed credit-card debt for the first time in 2010, according to Mark Kantrowitz, publisher of FinAid.org, a college grant and loan website. Under U.S. law, student-loan debt — unlike credit-card borrowings — can rarely be discharged in bankruptcy court.

President Barack Obama last month proposed linking federal aid to a college's ability to control tuition costs. The plan calls for increasing campus-based aid only for schools that limit tuition-cost increases and penalizing those that don't.

The Next "Debt Bomb"

The Huffington Post says Student Loans Could Be America's Next "Debt Bomb"

Growing numbers of Americans are finding themselves bankrupt, with their college diplomas partially to blame.

Slightly more than 80 percent of bankruptcy attorneys say the number of their potential clients with student loan debt have increased "significantly" or "somewhat" in the past three to four years, according to a survey by the National Association of Consumer Bankruptcy Attorneys. And there's little hope those debtors will get out of their obligations; 95 percent of bankruptcy attorneys surveyed said that very few student loan debtors will be discharged from their loan as a result of undue hardship.

"Take it from those of us on the frontline of economic distress in America: This could very well be the next debt bomb for the U.S. economy," William E. Brewer, Jr., president of the NACBA said in a statement accompanying the survey.

With so many college graduates burdened with so much debt, the potential for bankruptcies is huge. Nearly 25 percent of bankruptcy attorneys said they've seen potential student loan client cases surge by 50 to more than 100 percent, according to the NACBA survey. That despite the number of Americans that filed for bankruptcy overall falling last year, according to The New York Times.

Americans that graduated college with loans in 2010 owe an average of about $25,000 — a five percent boost from the year before, according to The Project on Student Debt. In addition, because they faced an unemployment rate of 9.1 percent upon graduation they're at a disadvantage when it comes to paying back the loans. 

4 of 5 Bankruptcy Attorneys Report Major Jump in Student Loan Debtors Seeking Help 

Inquiring minds may be interested in a link to Student Loan Survey taken by the National Association of Consumer Bankruptcy Attorneys (NACBA).

The NACBA survey of 860 bankruptcy attorneys nationwide found that:

• More than four out of five bankruptcy attorneys (81 percent) say that potential clients with student loan debt have increased “significantly” or “somewhat” in the last three-four years. Overall, about half (48 percent) of bankruptcy attorneys reported significant increases in such potential clients.
• Nearly two out of five of bankruptcy attorneys (39 percent) have seen potential student loan client cases jump 25-50 percent in the last three-four years. An additional quarter (23 percent) of bankruptcy attorneys have seen such cases jump by 50 percent to more than 100 percent.
• Most bankruptcy attorneys (95 percent) report that few student loan debtors are seen as having any chance of obtaining a discharge as a result of undue hardship.

Titled “Student Loan ‘Debt Bomb’: America’s Next Mortgage-Style Economic Crisis,” the companion NACBA paper published today points out:

• College seniors who graduated with student loans in 2010 owed an average of $25,250, up five percent from the previous year. Borrowing has grown far more quickly for those in the 35-49 age group, with school debt burden increasing by a staggering 47 percent.
• Students are not alone in borrowing at record rates, so too are their parents. Loans to parents for the college education of children have jumped 75 percent since the 2005-2006 academic year. Parents have an average of $34,000 in student loans and that figure rises to about $50,000 over a standard 10-year loan repayment period. An estimated 17 percent of parents whose children graduated in 2010 took out loans, up from 5.6 percent in 1992-1993.
• Of the Class of 2005 borrowers who began repayments the year they graduated, one analysis found 25 percent became delinquent at some point and 15 percent defaulted. The Chronicle of Education puts the default rate on government loans at 20 percent.

Obama's Misguided Plan to Fix the Problem

President Obama proposes to "fix" the problem by throwing more money at it. Instead, I propose the problem and solution is two-fold.

Two-Point Problem 

1. Guaranteed loans of any kind are a huge problem. An even bigger problem is guaranteed loans that cannot be discharged in bankruptcy. Schools have every incentive to drive up costs and to make loans to kids who simply do not belong in school at all,  as well as to kids whose benefit of education is far less than the cost of education.
2. Lack of competition. We need more accredited universities that can offer online programs, at far cheaper prices.

Two-Point Solution

1. Cancel the student loan program in entirety for new students and phase out student loans over the next three years for anyone already in such programs. 
2.  Accrediting some online education programs say from India, would certainly go a long way towards massively increasing competition and reducing costs. Obviously some classes need to be hands-on type (lab work), but I am sure that can easily be arranged in conjunction with local colleges.

My proposal would get government out of the student loan business where it does not belong, while increasing free-market competition to dramatically drive down prices.

Obama's solution is to throw more money at the problem.

Recent Rise in Non-Revolving Loans

By the way, the recent reported rise in non-revolving loans was entirely due to a huge rise in student loans, further increasing the size of the problem.

Please take a look at Consumer Credit "Demolishes Expectations" Really? No Not Really! The "Non-Bounce" in Non-Revolving Credit for some very interesting graphs and comments on the rise in student loans. 

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com