We wrote earlier about perverse federal financial aid policies that encourage colleges to jack up tuition. Recently, the Obama administration came up with something even worse. It announced a new financial aid policy that will effectively bail out low-quality, high-tuition colleges and especially law schools at taxpayer expense, and encourage colleges and professional schools to increase tuition even more. These changes are the product of a revised income-based federal student loan repayment program that will go into effect starting Dec. 21.
The revised "Pay as You Earn" program will allow eligible student-loan borrowers to cap monthly payments at 10 percent of discretionary income, and have their federal student loans forgiven after 20 years -- or just 10 years, if they go to work for the government. An earlier version of the program capped payments at 15 percent and offered forgiveness after 25 years. For students who foolishly attended third-rate but expensive colleges and law schools, this could wipe out part of their debt, at taxpayer expense, since their salaries in the low-paying jobs they end up with will be insufficient to pay off all of their massive debt in 20 years if they pay only 10 percent of their leftover income on repaying their student loans.
In the short run, this will primarily benefit those students. But in the long run, the primary beneficiaries will be low-quality but expensive colleges and law schools, which will be able to raise college tuition through the roof, since no matter how much debt their students run up in college, it will be written off after 20 years. That will eliminate market-based price discipline for those colleges, resulting in even more rapid increases in tuition.
will ensure students are able to commit to higher levels of federally backed student loans. By limiting student obligations to repay, and by passing more of the repayment burden onto taxpayers, colleges and universities will be able to continue to raise tuitions at a rate that outpaces nearly every other cost center in the American economy. The move will come as a great relief to the education establishment who otherwise may have needed to cut or cap tuitions.
The Obama plan limits repayment obligations to just 10% of "discretionary income" which it defines as total income above 150% of the federal poverty level (currently translating to about $16,000 for an individual, or $33,500 for a family of four). The plan also limits the term of obligation to 20 years. These terms represent a substantial easing and acceleration of the terms in Obama's "Pay as You Earn Plan," which was just announced last year . . .
Assuming that a successful college graduate would earn, on average, $80,000 per year over the course of the 20-year obligation period, the repayment burden under the new plan will total somewhere around $4,500 per year, or $90,000 for the life of the loan. A less successful graduate who earns say $50,000 per year, on average over the 20-year obligation period, would have a repayment burden of just $1,500 per year, or just $30,000 over the life of the loan. Any loan amounts above those totals will be forgiven.
As a result, students need not fear the inability to repay large loans. . . . the less a graduate earns, the greater the amount of loan forgiveness. For the majority of students, who don't become very high earners, it will make little difference if loan amounts are $90,000, $180,000 or even more. As the repayment burden will be capped to a percentage of average income, loan repayments will be the same for any loan beyond a certain threshold.
These policies could remove all barriers for larger and larger loans, which will then allow universities to charge higher and higher tuitions. . . .The day of reckoning in which the higher education system would have had to offer programs that fit into the budget of average Americans has been postponed, if not entirely eliminated.
Of course the losers in this new arrangement will be American taxpayers who will be on the hook for the unpaid balances. Recently, college loan debt passed credit card debt as the largest, non-mortgage, source of debt in the United States. . . . If college students were willing to rack up this much debt under the assumption they would have to actually pay it back, imagine how much debt they will be willing to amass now that they realize they do not? As a result, expect college tuition increases to not only continue but to accelerate.
Third-rate law schools may benefit disproportionately from this bailout, since law school tuition is funded disproportionately by student loans, loans graduating low students at lower-tier law schools will not be able to pay back with just 10 percent of their income over 20 years. As the American Bar Association’s ABA Journal notes, “Law students . . . are treated generously as future professionals and able to borrow, with virtually no cap, significantly more money than undergrads." Meanwhile, law school tuition has risen nearly 1,000 percent after inflation over the last half-century. As law professor Brian Tamanaha notes, at 20 expensive low-tier law schools, most students never will be able to fully repay their student loans, since most graduates of these schools don't find good jobs.
Under the Obama administration's new program, the federal government will write off most of these foolish law students' loans, and they will not even have to repay what they are capable of paying, since their payments will be limited to less than 10 percent of their income. (By contrast, prudent students who attended cheaper or better law schools will not receive the same benefit, since their loan payments are already smaller compared to their incomes.) These law schools will respond by increasing tuition even faster, since the increased tuition will be paid by the American taxpayers when the borrowed tuition is later written off (and since the law schools can use some of the increased tuition "loading up their campuses with even fancier facilities such as gymnasiums, performing arts centers, food courts and health centers," to attract students, and use the rest to pay their administrators a fortune. One fourth-tier law school pays its dean $867,000 per year!).
This taxpayer subsidy for low-tier law schools is especially unfortunate, because such law schools are in many respects economically harmful, and many law schools teach their students so few practical skills (as a few candid law professors have admitted) students would be better off studying for the bar exam on their own, rather than attending such schools (alas, the option isn't available, since most states require students to attend law school before taking the bar exam, even though I found my time at Harvard Law School to be mostly a waste. Students should be able to sit for the bar exam without wasting three years in law school).
Colleges have been able to increase tuition faster than inflation, year after year, secure in the knowledge they can rake in ever-rising government subsidies and skyrocketing tuition. College students are learning less and less even as education spending has risen. Meanwhile, the Obama administration has de-emphasized the teaching of practical skills needed in manufacturing.
Using faulty math (and assuming interest rates will stay low forever), the Obama administration has given this costly income-based repayment program a ridiculously low price tag of just a few billion. (In one of its computations, it falsely assumed the poverty level -- the level of income exempted from repayment under its income-based repayment plan -- never would increase because of inflation, even though it rises along with inflation, just like wages do.)