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What’s Driving the Student Debt Bubble?

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John Hammond Professor of Sociology, Hunter College, CUNY Graduate School; Ph.D., Sociology, University of Chicago, 1970

Posted on December 10, 2012

At more than one trillion dollars, student loans have grown to exceed total credit card debt.  Debt has become a standard part of the college experience.  Students take it on because they expect it to pay off in better jobs and higher salaries.  But many will be disappointed.   The buildup of debt in a weak job market means many of them cannot repay the loans and wind up in default.  Many students’ expectations of earning potential, moreover, would be unrealistic even in better economic times.

The boom in student debt derives from the financialization of the US economy.  In recent years financial institutions have enjoyed soaring profits and growing political power, as the bailout from the financial crisis of 2008 showed.  They created the mortgage bubble by encouraging people to take out loans that were likely to end in foreclosure, deceiving them about the terms of mortgages and “robosigning” documents that borrowers never saw, much less understood.  Lenders could afford to offer mortgages at high risk of nonpayment, because they were securitized—packaged and resold to investors—so that the investors, not the lender, stood to lose in case of default.  Major banks, moreover, could be confident that they were “too big to fail,” and that the federal government would bail them out if too many loans went bad.

The Student Loan Boom

A recent report by the new federal Consumer Financial Protection Bureau shows that something similar has happened with student loans.  Most loans still come from or are subsidized by the federal government, but according to the CFPB the private student loan market grew from less than $7 billion in 2001 to more than $20 billion in 2008 (although it dropped off sharply after the financial crisis, and stands at $5.7 billion today).

Before the financial crisis, banks sought out student loans to create new investment instruments.  Circumventing college financial aid offices, they marketed loans directly to students on apparently easy terms, accepting lower minimum credit ratings than required for federal loans and imposing no limit on the amount a student could borrow.  Interest rates on these private loans are generally variable and often “risk-based,” that is, higher for borrowers with lower credit ratings.

Like mortgages, these loans are turned into asset-backed securities.  Thousands of loans are “sliced and diced” into assets that can be sold as a package to big investors.  As with securitized mortgages, the lender bears no risk and therefore has an incentive to market loans without regard for ability to repay.

Students take out loans because they expect payoffs and also because of the escalating cost of college, itself the product of several factors: colleges market themselves by spending lavishly on amenities to attract students, and then raise tuition to pay for them.  Many colleges have reduced or abandoned need-based scholarships, instead funding students whose high test scores or other attributes improve the college’s profile, making it more marketable.  Even state legislatures are disinvesting in higher education; nationally, spending per public college student, when adjusted for inflation, fell to a 25-year low in 2012.

Nor has government aid kept up with rising costs.  Though appropriations for federal Pell Grant aid have risen, the maximum grant is expected to cover less than one-third of the average cost of attendance at public four-year colleges, a level that The Institute for College Access and Success (TICAS) has said would be “the lowest in history.”

The Role of For-Profit Colleges

Students in private, for-profit universities have the biggest debt problems.   Enrollment in these schools more than tripled between 2001 and 2010, to 2.4 million, or 13 percent of college students today; they receive about a quarter of federal student loans and grants.  A recent report from the Senate Health, Education, Labor and Pensions Committee shows that their educational record is poor.  54% of students entering in 2008-2009 dropped out within two years.

Read more from the original post at The Boston Occupier.




John Hammond's current research is on human rights and rural social movements in Latin America and the World Social Forum