On July 1, students across the country watched in dismay as the interest rates on federally subsidized Stafford student loans double rocketed from 3.4% to 6.8% after Congress failed to reach a deal extending the lower interest rates for the loans. Stafford loans are offered to students based on demonstrated financial need at a federally determined interest rate and paid by the federal government while a student is enrolled. According to the Congress’ Joint Economic Committee, this increase will cost the average college student an addition $2,600.
The rise of Stafford Loan interests comes from another failed attempt at compromise by Congress. Democrats have been fighting to peg the interest rate at the 3.4% for two more years. Republicans have proposed that Congress should not be setting lending rates and that student loans should be linked to financial markets by tying loan rates to the 10-year Treasury note yield with an interest rate cap to prevent skyrocketing rates. President Obama in the budget he sent to Congress earlier this year included a variation on this market-based approach, which has been blocked by his fellow Democrats.
The proposals from both parties failed to pass the Senate and an attempt at a bipartisan agreement died when Democratic chairman of the Senate Committee on Health, Education, Labor, and Pensions Tom Harkin (D-IA) declared it a non-starter.
Until Congress gets its act together to extend the 3.4% interest rate for one more year, students needing to take out federal loans are advised to “prepare for the worst and hope for the best” as there is no guarantee Congress will pass an extension before the school year starts.
New Post-Graduation Plan: Move Back in with my Parents
Students today face the daunting challenge in today’s economy of finding economic footing. The Class of 2012 graduates faced an unemployment rate of 13.3% and two-thirds of 2011 college graduates graduated with an average student loan debt of $27,500 adjusted for inflation. With the average starting salary for a 2013 graduate being only $45,000, some find themselves unable to pay off student debt that is larger than their salary. Increasing the debt burden on students only makes it harder for students to find their own economic independence and also increases the chance of students deferring important life decisions.
For example, with high student debt and insufficient salaries or no job at all, the number of recent graduates buying houses has decreased as young adults decide to delay getting married and forming households. From 2005 to 2012, the percentage of men ages 25-34 living in their parents’ home rose from 13.5% to 16.9% and for women rose from 8.1% to 10.4%. In addition, first-time house buyers comprise only 30% of the housing market when they normally make up 40%-45%. For the economy as whole, less young adults buying houses and starting households dampers prospects for more growth in a slowly recovering economy. Moreover, the inability for young adults to find economic stability means that they are less able to save for their future and therefore their children are also likely to have to take more loans. As our nations young people stagnate, so does the economy.
Can the Government Help Students?
The root of the problem facing students is the ever increasing costs of college tuition. College tuition annually increased at a rate of about 8%, far outpacing inflation and college costs. One contributing factor is the lack of government assistance in the form of subsides provided on a per student basis. Since most colleges cover most if not all of student need, assistance not provided by the government has to be covered by the college leading to increased tuition rates.
However, according to Glenn Reynolds of the Wall Street Journal, government subsidies for education have the unintended consequence of creating adverse incentives that drive up tuition costs. In colleges today, there is a phenomenon known as “administrative bloat” leading to higher costs for colleges. A 2010 study by the Goldwater Institute found that many American universities now have more salaried administrators than teaching faculty. There is intense competition among universities to provide the best services to attract more students and they do so by bidding and paying high salaries to attract and retain talented administrator that most universities cannot afford. Universities are only able to afford these high cost administrators by government per student subsidies reducing the amount of funds universities have to set aside for student financial need. More students mean more subsidies. To make things worse, government subsidies, such as subsidized low interest student loans, do not hold universities responsible in any way for helping cover financial aid costs, these subsidies incentivize colleges, in their strive to be more attractive to students and capture more subsidies, to take on costs that lead to higher tuition.
The government has a very important role in helping students afford college who are otherwise unable to attend. But at the same time, government intervention into any industry has the potential to cause unfavorable incentives. For this issue of interest rates, the government should take action immediately to decrease interest rates and reduce the burden on students. But using these same tools, the government can change the incentive structure of universities to systemically reduce tuition costs. The government can work to make universities more responsible for the costs that the government helps to cover. We must make sure our institutions of higher learning are a launchpad to the future and not a ball and chain.