Comment on Student Loans--Posner

A critical question in deciding whether the government should subsidize student loans is what the market for college education would look like without any subsidy. An important aspect of the question is what the effect would be on college attendance: would many kids who now attend college decide not to do so because the cost would be too high? I doubt that. There would be a private loan market, albeit with higher interest rates. Because college is a good investment even after the higher future incomes that it makes possible are discounted to present value, most students who now borrow for college at the lower, federally subsidized rates probably would pay the higher rates. Others would borrow from their parents. Others would take part-time jobs during the school year or work more during summers. Still others would switch from expensive private colleges to state- or city-subsidized public colleges. Colleges would grant more scholarship aid and offer their own loan subsidies. Thus the burden of the higher interest rates would be shared among students, their parents, and the colleges, though the the colleges would try to shift some of the burden to the wealthier students, to faculty, and to donors. If despite these responses to abolition of the federal student-loan program, many college-qualified young people decided not to go to college, the question would then be—from a strictly economic standpoint and without regard to distributive justice (which I discuss below)—whether society as a whole would be a loser from having a less well-educated population. Maybe so. Educated people are more productive, as indicated by their higher incomes, and they cannot capture the entire benefits of their higher productive value for themselves; for one thing, income is shared between the earner and the Internal Revenue Service, and the latter’s share goes to benefit other people. Probably a more important consideration is that educated people are less likely to commit crimes or to end up on welfare, and more likely to vote, which may confer a benefit on the public as a whole by increasing the perceived legitimacy of election outcomes. But the “externalities” argument for subsidizing college education depends not only on how many kids would not attend college without the federal subsidy, but also on the cost of the subsidy to the taxpayer. I have no strong sense that the net external benefits are positive. If they are positive, it is very unlikely that they are large, considering the indirectness of this method of subsidizing education. Nor is it even clear that the subsidy transfers wealth from the better off to the worse off members of society. The subsidized loans are available to everybody, not just the needy; and the costs of the loans are paid out of federal taxes, which are no longer highly progressive. So I am dubious about the student-loan program. But if it is retained, I see no merit in making student loans nondischargeable in bankruptcy. The effect is to reduce the interest rates on such loans, but at the same time to increase the risk to the borrower—and why is that an advantageous trade? If it is an advantageous trade, why shouldn’t consumer bankruptcy simply be abolished, so that all consumers, and not just students, can obtain the benefit of lower interest rates in exchange for losing the privilege of discharging debts by declaring bankruptcy? The benefit to borrowers of surrendering the right to discharge their debts in bankruptcy is especially illusory when one considers that someone who has a nondischargeable debt will have to pay higher interest rates to his other creditors, because if he goes broke they’ll have a reduced expectation of being able to recover any part of their loans in the bankruptcy proceeding. This is part of a larger puzzle about secured lending. The effect of making student loans nondischargeable in bankruptcy is to make the students’ future income in effect collateral for the loans. When part of one’s property becomes security for one lender, the amount of property available for other lenders is reduced, so they charge a higher interest rate, which tends to offset the lower interest rate that one can extract from a creditor by giving him security. In the case of the home mortgage, the debt secured by the mortgage so dominates other debts for most families that the interest tradeoff clearly favors collateralization. But is that true with respect to student loans, where the collateral is income? The law does not permit a creditor who garnishes his debtor’s earnings (as the creditor of a nondischargeable debt is permitted to do) to take more than a modest percentage of those earnings. Enforcing student loans may therefore turn out to be quite costly for the lenders in relation to the benefits to them. If so, the net interest rate benefit to students from abolishing the privilege of discharging student loans in bankruptcy may be slight.

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