The Economic Payoff of a Student Loan Payoff

For all the talk about Dreamers in the national immigration debate, a recent research paper positing the positive effect of erasing the nation’s $1.3 trillion student debt burden has given the term new meaning.  If someone could wave a magic wand and make student loan debt disappear, we would hear the collective cheers of student borrowers all the way to the moon.  But rather than treat such an act like a fairy tale, a group of economists here on earth went about determining the kind of economic impact a massive cancellation of student debt would have.  And it’s huge.

The research paper from the Levy Economics Institute of Bard College claimed that cancelling all student debt would elevate real “GDP by an average of $86 billion to $108 billion per year” over ten years.  The report anticipated job creation in the first few years of “roughly 1.2 million to 1.5 million new jobs per year.”  The research further indicated “many other positive spillover effects…including increases in small business formation, degree attainment, and household formation, as well as improved access to credit and reduced household vulnerability to business cycle downturns.”  Unleashed spending potential could boost home buying by a generation who has been resistant to be burdened by mortgage debt when already saddled with student loan debt.  In other words, “Abudanza!”

Now Back to Reality

Some critics have pointed out the economic unfairness of letting some potentially well-off borrowers with student loan debt be excused from paying it. But among these borrowers is a generation of graduates who entered the job market in the midst of the financial crisis and who faced financial challenges right out of the gate, perhaps debt cancellation could be seen as a reasonable corrective to this group who have had an uphill climb from the start – compensation, if you will, for being dealt such a terrible hand.

But, the U.S. government is not rushing out to adopt a mass debt cancellation plan.  In fact, the Trump administration in its recently announced budget plan has proposed moving in the other direction to address student loan repayment. The new budget seeks to eliminate loan forgiveness for public servants. The administration has suggested a revamp of the income-driven repayment program which would require borrowers to pay more each month with the intention that the debt would be forgiven sooner:  for undergraduates, the new plan would increase the monthly payment to 12.5% of discretionary income versus 10% under the current plan and permit loan forgiveness after 15 years rather than 20. One structural change the Trump administration has advocated for is to automatically enroll borrowers into income-driven repayment plans via verification of income with the IRS. Since borrowers do not always know they have this alternative option, this may be a helpful change.

House Republicans have put forth a less encouraging plan—asking borrowers to pay 15% of discretionary income with no loan forgiveness.  The idea would be that those borrowers would only pay until they reached the amount they would have paid under a 10-year repayment plan.

Both the Trump administration and House Republican plans assume borrowers are somehow sitting on piles of extra cash they are not otherwise putting towards their loans.  Their plans are focused on delivering debt relief to those already financially stable with a payoff much further down the road. In addition, these proposals would only affect loans made after July 1, 2019.  A debt-free future would remain a fairy tale for the borrowers sitting on a heap of debt and putting off all other economic investment because of it.

Debt Relief Can Be Less Radical, But Still Innovative

As radical as the debt cancellation dream is, it is part of the new conversation in the country regarding student debt relief that needs to continue.  We’ve reached a turning point in our acceptance of rising educational costs outstripping income potential and the research report creates the space now for other perhaps less radical, but innovative ideas to flourish.  Lenders and investors need to set expectations based on the momentum toward debt relief programs.

 

James Serritella, a Partner in the Insolvency, Creditors’ Rights & Financial Products Practice Group of Davis & Gilbert, contributed to this post.