Defusing the Student Loan Debt Bomb

A recent Wall Street Journal analysis paints a grim picture of the situation facing millennials: 

“American millennials are approaching middle age in worse financial shape than every living generation ahead of them, lagging behind baby boomers and Generation X despite a decade of economic growth and falling unemployment.

“Hobbled by the financial crisis and recession that struck as they began their working life, Americans born between 1981 and 1996 have failed to match every other generation of young adults born since the Great Depression. They have less wealth, less property, lower marriage rates and fewer children, according to new data that compare generations at similar ages.”

Even allowing for the inevitable exaggeration, not to say whining, about their condition, too many millennials seem mired in the dismal “new normal “of the Obama economy just as much of the rest of the country is leaving it behind. The seeming intractability of the problems facing them is driving many to embrace radically collectivist and redistributive policy models, if not ideology, in numbers that are downright shocking. Specifically, political discussion of a fix for millennial higher education student loan balances that surpass both credit card and auto loan debt remains strictly in the realm of the fanciful.

As many have observed, the responsibility for the college student loan debt bubble cannot be laid solely at the feet of students and parents. Colossal failures of nerve and betrayals of standards by individual institutions and the false promises and perverse incentives of government policy have also played their part in creating this mess. Many were tempted to gamble at the high-stakes college-for-all table, but the house always won.

Finding a way to help an emerging generation of Americans work free of their student loan debt will serve both them and the common good, as long as the proposed solution incorporates material participation by all the multiple authors of this tragedy. For our ideologically purist friends, an alternative to the kind of dangerous notions we are hearing from the left can actually buttress, rather than diminish, the ideas that sustain a representative republic committed to individual liberty, limited government, and economic freedom, not  to mention providing a plausible electoral alternative that can help expand the MAGA coalition. Ostensible education acquired at ruinous cost taught many millennials the wrong lessons. A rational ameliorative policy that demands contributions from all of those implicated in the student debt mess, thoughtfully articulated, can do more than all the haranguing about the virtues of democratic capitalism in helping coax millennials from the socialist/redistributionist cliff edge where many now teeter precariously.

From a purely  policy perspective, the key to resolving the student loan debt problem is putting aside the gauzy pieties and treating post-secondary expenditures on education and training strictly as an investment in the individual student’s “human capital,” which upon graduation they rent to firms for the term of their employment or otherwise put to use supporting themselves.  

Viewed in economic terms, post-secondary education is still a surprisingly good investment. The current disillusionment notwithstanding, returns on post-secondary education have held up remarkably well in the last 20 years.

The returns are calculated by taking into account not only out-of- pocket costs, but also the opportunity costs of college. The charts below show that the costs of a baccalaureate degree are about the same in inflation-adjusted terms as they were in 1970, while those of an associate’s degree have actually declined.  

During the Obama years, with so few opportunities for high school graduates to after commencement, the opportunity costs of post-secondary education were low enough to offset ever-more spectacular out-of-pocket costs in the return calculations above. In the real world, these depressing prospects helped fuel the higher education/government lending machine.

Good potential returns or not, expenditures on education are a risky investment in the human capital of one fallible individual.  A single student is always subject to the hazards and distracting temptations of college life, as one notoriously put it recently, all that “experience of game days, [and] partying” -- in addition to the vagaries of the labor market.  While median returns to college education remain high, the variation in these returns is wide as millennials entering the labor market in the last decade have learned.

We propose using the federal income tax system to facilitate student loan repayment by the twin victims of both Hope and Change economic malpractice and a form of governmental/post-secondary institution collusion that enticed many students and their families into making bad bets.  The U.S. Treasury initially would assume all the student loan debt and repay the original lenders for the balances of those who graduated from any post-secondary institution between 2007 and 2020. So far, this is what left-progressive plans propose, though most cover various classes of future students as well. But we introduce a critical second element that assigns for the student and alma mater a division of responsibility to repay taxpayers for the loan payoffs. The graduate would reimburse a portion to the U.S. Treasury, while the alma mater paid the remainder, the latter’s contribution determined by the graduate’s income.  The graduate and the institution thus would share the risk that the student’s investment in his/her human capital at that institution was a good one.

In our baseline example, that of the median four-year college graduate’s annual income on graduation of about $40,100, the graduate and the alma mater would each pay 50% of the outstanding debt. The graduate, subject to a federal marginal tax rate of 22%, would have a fixed amount added to each year’s tax liability to pay off his or her portion of the amount advanced by the Treasury. 

For purposes of illustration, we assume a median undergraduate student debt of $30,000.00 (the actual median is currently $28,000.00). If the final policy’s terms were to call for sharing the risks of the median student’s debt equally between graduate and alma mater, the graduate’s share of the debt can be paid off in 20 years at 6% without any adjustment being necessary in his or her marginal tax rate. If the graduate’s income grows in later periods, he or she can increase payments, lessening the payoff period. Likewise, if it chooses to do so, the alma mater can shorten the payoff period by accelerating payments.

If a graduate’s income on leaving school is above the median level, the proportion of the repayment liability would be adjusted upward based on an established sliding scale, and likewise, if taxable income is below the median, reduced. The alma mater would thus be rewarded for producing high-income graduates because these would assume more than the baseline 50% of the debt liability, while lower-income graduates would pay lower fractions, with the educational institution assuming a larger share.

The approach we have outlined lifts the immediate burden of student debt from younger Americans, enhancing their opportunity to pursue productive lives and careers, while repaying lenders in a manner that reduces the moral hazard inherent in the kinds of paid-off free rides being proposed by some presidential candidates. The adjustments in attitude it suggests for both institutions and future students would be a not insignificant side benefit.

The $1.5 trillion student-loan bomb required many hands to construct. Defusing it safely must also be a collective effort. The policy response to the student loan mess thus far has only singled out for-profit institutions  for government action. And yet, reflection on the charges leveled against them like exploiting federal subsidies, lack of accountability, and poor outcomes, as well as the fixes proposed like “gainful employment” rules, suggests casting the much wider policy net we have proposed. 

William T.  Alpert is Emeritus Associate Professor of Economics at the University of Connecticut. He and Mr. Capua are principals of Fides Philanthropic Management and Advisory Services, LLC. Both were fortunate enough to have earned their doctorates at a time when merit-based higher-education assistance was readily available. 

A recent Wall Street Journal analysis paints a grim picture of the situation facing millennials: 

“American millennials are approaching middle age in worse financial shape than every living generation ahead of them, lagging behind baby boomers and Generation X despite a decade of economic growth and falling unemployment.

“Hobbled by the financial crisis and recession that struck as they began their working life, Americans born between 1981 and 1996 have failed to match every other generation of young adults born since the Great Depression. They have less wealth, less property, lower marriage rates and fewer children, according to new data that compare generations at similar ages.”

Even allowing for the inevitable exaggeration, not to say whining, about their condition, too many millennials seem mired in the dismal “new normal “of the Obama economy just as much of the rest of the country is leaving it behind. The seeming intractability of the problems facing them is driving many to embrace radically collectivist and redistributive policy models, if not ideology, in numbers that are downright shocking. Specifically, political discussion of a fix for millennial higher education student loan balances that surpass both credit card and auto loan debt remains strictly in the realm of the fanciful.

As many have observed, the responsibility for the college student loan debt bubble cannot be laid solely at the feet of students and parents. Colossal failures of nerve and betrayals of standards by individual institutions and the false promises and perverse incentives of government policy have also played their part in creating this mess. Many were tempted to gamble at the high-stakes college-for-all table, but the house always won.

Finding a way to help an emerging generation of Americans work free of their student loan debt will serve both them and the common good, as long as the proposed solution incorporates material participation by all the multiple authors of this tragedy. For our ideologically purist friends, an alternative to the kind of dangerous notions we are hearing from the left can actually buttress, rather than diminish, the ideas that sustain a representative republic committed to individual liberty, limited government, and economic freedom, not  to mention providing a plausible electoral alternative that can help expand the MAGA coalition. Ostensible education acquired at ruinous cost taught many millennials the wrong lessons. A rational ameliorative policy that demands contributions from all of those implicated in the student debt mess, thoughtfully articulated, can do more than all the haranguing about the virtues of democratic capitalism in helping coax millennials from the socialist/redistributionist cliff edge where many now teeter precariously.

From a purely  policy perspective, the key to resolving the student loan debt problem is putting aside the gauzy pieties and treating post-secondary expenditures on education and training strictly as an investment in the individual student’s “human capital,” which upon graduation they rent to firms for the term of their employment or otherwise put to use supporting themselves.  

Viewed in economic terms, post-secondary education is still a surprisingly good investment. The current disillusionment notwithstanding, returns on post-secondary education have held up remarkably well in the last 20 years.

The returns are calculated by taking into account not only out-of- pocket costs, but also the opportunity costs of college. The charts below show that the costs of a baccalaureate degree are about the same in inflation-adjusted terms as they were in 1970, while those of an associate’s degree have actually declined.  

During the Obama years, with so few opportunities for high school graduates to after commencement, the opportunity costs of post-secondary education were low enough to offset ever-more spectacular out-of-pocket costs in the return calculations above. In the real world, these depressing prospects helped fuel the higher education/government lending machine.

Good potential returns or not, expenditures on education are a risky investment in the human capital of one fallible individual.  A single student is always subject to the hazards and distracting temptations of college life, as one notoriously put it recently, all that “experience of game days, [and] partying” -- in addition to the vagaries of the labor market.  While median returns to college education remain high, the variation in these returns is wide as millennials entering the labor market in the last decade have learned.

We propose using the federal income tax system to facilitate student loan repayment by the twin victims of both Hope and Change economic malpractice and a form of governmental/post-secondary institution collusion that enticed many students and their families into making bad bets.  The U.S. Treasury initially would assume all the student loan debt and repay the original lenders for the balances of those who graduated from any post-secondary institution between 2007 and 2020. So far, this is what left-progressive plans propose, though most cover various classes of future students as well. But we introduce a critical second element that assigns for the student and alma mater a division of responsibility to repay taxpayers for the loan payoffs. The graduate would reimburse a portion to the U.S. Treasury, while the alma mater paid the remainder, the latter’s contribution determined by the graduate’s income.  The graduate and the institution thus would share the risk that the student’s investment in his/her human capital at that institution was a good one.

In our baseline example, that of the median four-year college graduate’s annual income on graduation of about $40,100, the graduate and the alma mater would each pay 50% of the outstanding debt. The graduate, subject to a federal marginal tax rate of 22%, would have a fixed amount added to each year’s tax liability to pay off his or her portion of the amount advanced by the Treasury. 

For purposes of illustration, we assume a median undergraduate student debt of $30,000.00 (the actual median is currently $28,000.00). If the final policy’s terms were to call for sharing the risks of the median student’s debt equally between graduate and alma mater, the graduate’s share of the debt can be paid off in 20 years at 6% without any adjustment being necessary in his or her marginal tax rate. If the graduate’s income grows in later periods, he or she can increase payments, lessening the payoff period. Likewise, if it chooses to do so, the alma mater can shorten the payoff period by accelerating payments.

If a graduate’s income on leaving school is above the median level, the proportion of the repayment liability would be adjusted upward based on an established sliding scale, and likewise, if taxable income is below the median, reduced. The alma mater would thus be rewarded for producing high-income graduates because these would assume more than the baseline 50% of the debt liability, while lower-income graduates would pay lower fractions, with the educational institution assuming a larger share.

The approach we have outlined lifts the immediate burden of student debt from younger Americans, enhancing their opportunity to pursue productive lives and careers, while repaying lenders in a manner that reduces the moral hazard inherent in the kinds of paid-off free rides being proposed by some presidential candidates. The adjustments in attitude it suggests for both institutions and future students would be a not insignificant side benefit.

The $1.5 trillion student-loan bomb required many hands to construct. Defusing it safely must also be a collective effort. The policy response to the student loan mess thus far has only singled out for-profit institutions  for government action. And yet, reflection on the charges leveled against them like exploiting federal subsidies, lack of accountability, and poor outcomes, as well as the fixes proposed like “gainful employment” rules, suggests casting the much wider policy net we have proposed. 

William T.  Alpert is Emeritus Associate Professor of Economics at the University of Connecticut. He and Mr. Capua are principals of Fides Philanthropic Management and Advisory Services, LLC. Both were fortunate enough to have earned their doctorates at a time when merit-based higher-education assistance was readily available.