Student Loan Debt – Opinions, Issues, and Solutions

| Zach Swaziek | March 30th, 2018 |

In the 2016 Democratic Party presidential primaries, candidate Bernie Sanders ignited a fire in students around the U.S. Most notably, Sanders ran on the platform of making college debt free. While this may be unrealistic in the current political environment, the idea gained a lot of traction and is still a focal point for many Democrats. Newly appointed Chairman of the Federal Reserve System, Jerome Powell, recently discussed student loan debt at a hearing for the Senate Banking Committee. After noting that college education “may be the most important investment” in a person’s life, Powell said that the high levels of student loan debt could create headwinds for the economy. Large debt payments reduce the consumption spending of graduates and can delay the purchase of a home, with a median delay of seven years for student debt-ridden Millennials. Student loan debt is currently the second largest category of household debt in the U.S., standing at $1.4 trillion. Only mortgage debt is larger.

As student loan debt continues to increase in the United States, politicians and researchers alike have tried to determine whether the debt in its current state should be considered a crisis or if it should be considered relatively normal. A report published by the Brookings Institute from 2014 suggests that there is not a student debt crisis. Instead, Susan Dynarski, a professor of public policy at the University of Michigan says there is a “repayment crisis.” Dynarski notes that since 2003, the distribution of the total amount of debt held by students has not changed significantly. Most of the growth in outstanding debt is explained by the increase of students attending graduate school, of whom only have a 3% default rate. The real issue, Dynarski argues, is that there is a mismatch between the timing of the costs and benefits of attending college. Just like any investment, a college education includes costs early on with benefits realized in the future.


A report by the Urban Institute demonstrates the idea that a college education is an investment with compounding benefits. This report shows that the wage premium for recipients of bachelor’s degrees, measured as the median income difference between high school graduates and bachelor’s degree recipients who are full-time workers, grows until the age range of 55-64 years old. Although student loans are meant to facilitate the matching of college education costs and benefits, Dynarski says it isn’t enough; the payments early on in the loan are too large relative to the benefits realized later in life from higher income. She argues that income-based repayment programs, where student debt payments would be proportional to the amount of income earned, could help resolve this issue. The federal government currently offers several income-based repayment plans. Three of these programs have repayment plans of 10% of a graduate’s discretionary income over a period of 20 to 25 years. Although these repayment plans are promising, Dynarski notes that more research must be done in order to understand the true costs and benefits of these programs. Even though Dynarski identifies significant issues related to student debt, she claims that there is no “student debt crisis.” However, she fails to identify some student loan default trends that suggest the opposite.

In contrast to Dynarski’s viewpoint, a 2018 Brookings Institute report supports the idea that the United States may be nearing a “student loan default crisis.” Data from two cohorts of student loan borrowers suggests that the cumulative default rate, or the total percentage of college entrants in the cohort that have defaulted on their student loan debt, has increased significantly over time. Judith Scott-Clayton, a professor at Teachers College, Columbia University, forecasted that over 40% of all college entrants from 2003 to 2004 who borrowed to attend college will default by 2023. This is approximately a 15-percentage point increase compared to the 1995-1996 cohort. The significant percentage increase in overall defaults, the high and increasing levels of defaults of borrowers attending for-profit colleges, as well as disparities between default rates of different racial groups displayed in Scott-Clayton’s analysis lead her to declare that there must be more robust efforts to combat these issues.

Although analyses like Dynarski’s and Scott-Clayton’s are valuable for understanding the potential consequences of student debt, an important question still remains: what, if anything, should policymakers and politicians do? A drastic solution for combatting the consequences of student debt was recently analyzed by the Levy Economics Institute of Bard College, a “nonprofit, nonpartisan public policy think tank.” The Levy Economics Institute published a comprehensive report in February titled The Macroeconomic Effects of Student Debt Cancellation. This report discusses multiple ways student debt could be canceled and uses economic models to forecast the macroeconomic outcomes of such an action.

The report begins by showing different avenues the government could take to cancel federal and private student debt. The recurring statement throughout this part of the analysis is that there is “no free lunch” for canceling student debt. In other words, there are no significant budgetary benefits of handling the cancellation through one way or another. Ultimately, the national debt would increase each year by the sum of the interest payments that would have been repaid by the federal student borrowers in addition to an increase from the outstanding private student loans assumed by the government. The researchers estimate that the resulting yearly increase in the deficit to GDP ratio would range from 0.29 percent to 0.75 percent of GDP. Although this is a relatively small increase, it is an additional burden on taxpayers. It could be argued, however, that the positive macroeconomic impact of this policy would offset the cost of increasing the national debt.

The Levy Economics Institute’s researchers used two well-known economic models to forecast the macroeconomic impacts of canceling all current U.S. student debt. The results of the simulations over the ten-year period are not surprising, although they are significant. In three of the four simulations, comparing the economy after canceling the student debt to a baseline economy, GDP is higher, unemployment is lower, job creation is higher, and the total inflationary effect is small. It is estimated that GDP would increase by approximately $800 billion to over $1 trillion. This result makes intuitive sense, as the income that would have been used by borrowers to pay the $1.4 trillion outstanding student loans would be available for consumption or savings purposes. Increased job creation is also expected since more capital would be available for young people to create new companies. Projected job growth would lower unemployment rates by 0.2 to nearly 0.4 percentage points in total over the ten-year period.

From a purely macroeconomic perspective, a one-time cancellation of student debt in the U.S. may look promising in the short run. However, much of economics focuses on long-run equilibrium. What are the long run macroeconomic impacts of this one-time cancellation of student debt? The Levy Economics Institute’s analysis provides no answer. Perhaps a drastic measure like this would lead Congress to consider “debt-free” college, where taxpayers fund all education. This would make the long run effect question even more difficult. As economic efficiency is related to the long-run outcomes of policies, we will instead consider the efficiency of debt-free college.

Is the policy of making college “debt-free” efficient from an economic standpoint? This question relates to an economic reason for why the government helps fund education. Education creates human capital externalities, a type of positive externality. A human capital externality occurs when a person’s education or general knowledge generates benefits for the people around them, but the person is not compensated for the benefits they create. For example, a person with a college education may use their knowledge to help their co-workers become more productive. The increased productivity may lead to higher output and thus higher wages for this person’s co-workers. Although the educated person can be attributed with this increase in productivity, they may not be compensated for it. In general, the lack of compensation for human capital externalities leads to education being undervalued and underfunded, as not all the benefits of education are realized by the person who had made the education investment. This market failure can be corrected by the government through the act of subsidizing education.  Many studies have analyzed and supported the theoretical and empirical evidence for human capital externalities, furthering the argument for the subsidization of education. However, as one researcher notes, if the government inefficiently allocates resources toward education, such as through overspending on education or by subsidizing types of education that result in low human capital externalities, these positive externalities will be offset by the deadweight loss of unnecessary spending. Research suggests that education should be subsidized up to some point. Whether or not debt-free college is efficient depends on what the dollar amount of this point is. More research must be done to estimate the most efficient level of government spending in education.

Although the authors of the Levy Economics Institute’s paper likely understand that cancelling student debt is improbable at the current moment, their analysis is valuable. Showing that the impact on the national debt would be minimal while the macroeconomic benefits would be large demonstrates to the public and policymakers that efforts to reduce student debt would likely be beneficial for the U.S. economy in the short run. At a time when Congress is reviewing a new education bill, the PROSPER Act, it is incredibly important for politicians and policymakers to understand the economic consequences and benefits of policy, no matter how unlikely it may seem at the time. Student debt is a significant economic challenge that many Americans encounter today and identifying the issues and potential solutions to them is becoming ever more important.