Author: Anthony Labarga
The collapse of the consumer mortgage apparatus and the subsequent contraction of the global economy has been a disaster for anybody who was planning to include higher education in their future. We have recently learned in a very nasty way that progress built upon debt is a house of cards waiting for a breeze. Yet even as we work our way out of the financial abyss, the student debt market is building up a bubble very similar to the mortgage bubble we saw a few years ago. If, as was the case with the mortgage market, borrowers do not carefully consider the costs and benefits of what they are financing, then there might be a collapse on the horizon for the student debt market as well.
It is well-documented that the education level of a postindustrial society exhibits diminishing marginal returns with respect to income: as education levels rise, so does income, but at a decreasing rate. That doesn’t seem too problematic, except that the cost of a college education is rising at a constant or even increasing rate. To put it simply, costs are outstripping benefits, and they are doing so rapidly. While there are certainly people who pursue education for the sake of learning, those who take out loans ultimately must pay them back. This must be taken into consideration when education decisions are made, rather than simply assuming that the fruits of education will always cover their own costs.
This fact could conceivably lead to a crash in the next few years. Even now, as the bubble is still only building, the New York Times reports that about 15 percent of borrowers default on their student loans, a major increase over default rates five or 10 years ago. Any sudden wave of defaults could trigger chaos in the lending system. Companies are currently willing to lend because payments have proved reliable; but if this were no longer the case, a credit crunch could ensue, which could put the dreams of hundreds of thousands of students out of reach. The financial decisions students make now affect the options open to students in a few years.
As to what this crash would actually entail, it would look fairly different from the panic we saw a few years ago. Taking out a mortgage for a house requires a down payment, and the house itself serves as collateral for the loan. These loans are considered “secured.” Student loans, on the other hand, are almost never secured. To compensate loan companies for this risk, the law makes it extremely difficult for student debtors to escape their loans even if they declare bankruptcy. If there were a crash in the student debt market, banks could not simply accumulate collateral as assets the way they did when the mortgage market crashed. Instead, they would have to bargain with debtors to reduce payments or interest rates, making student loan debt assets difficult to value-prime conditions for a panic in the market for student loans. In the event of that kind of crisis, the financial system should remain fundamentally sound because student loans are hard to get rid of, but it would not be a fun ride.
Great care must be taken in weighing the value of an education versus its cost. As higher education becomes common, the relative value of any individual’s education falls. At the same time, the cost of that education continues to rise, further complicating this decision. If the decision of whether or not to go to graduate school (or even to college whatsoever) is made with the attitude that all education is ultimately profitable, there could very well be be a crash in student loans in the future. Do not depend on universities to avert this problem-they make more money as education costs rise. Instead, students themselves should carefully consider how much money they could reasonably make after college versus how much they value having an education. What goes up has to come down.
Anthony Labarga is a junior economics and mathematics double major. He can be reached at labarga@oxy.edu.
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