Some years ago, I was living in a rundown section of Lubbock, Texas, known locally as the “Tech ghetto” — being populated by a great many young Texas Tech students on modest budgets and the occasional junior staffer at the Lubbock Avalanche-Journal earning $400 a week — when I got a knock on my door and opened it to find a not especially prosperous-looking man of some years holding before him a silver tea service, which he was eager to sell me. I began to run through my neighbors in my head, trying to identify which household was most likely to have been burgled in the past five minutes by the man on my doorstep. I would have called the police, but I didn’t have a telephone at the time. I declined his offer, and advised the fellow that I would decline it much more emphatically if in the next minute or so he was still visible from my doorway. But not everyone feels the same way about trafficking in stolen goods — on and around New York City’s Canal Street, hordes of tourists come to pick over counterfeit versions of luxury handbags and high-end watches, counterfeiting being only another form of theft, albeit a slightly indirect one. But there are no illusions on Canal Street — everybody knows exactly what is going on.
You would not know it if you knew the world only through the declarations of Elizabeth Warren and Occupy rhetoric, but bank loans do not generally work like that. JPMorgan Chase does not send out legions of small-time criminals to knock on doors in low-income neighborhoods with the hopes of ensnaring some new mortgage customers, and if you want to open a line of credit with Deutsche Bank, you do not do so by making some discreet, oblique suggestions to a guy with a bunch of fake Gucci purses hanging on his wall before being led into a back room where real business is conducted. If you buy a car on credit, there are dozens of forms to be read, lines to be signed upon, and consultations with third parties. There are reams of bureaucratic documentation involved in getting a simple and straightforward credit card. And student loans are not something that simply happens to unsuspecting young people wandering around the precincts of higher education. They have to be sought out, applied for, approved, etc.
American households have been getting their act together on debt, at least a little bit, since the financial crisis and the subsequent recession. Credit-card defaults, after spiking around 2009, have been in decline, as have mortgage defaults and car-loan defaults. Home-equity loans took a little longer to get straightened out, but defaults on those are in decline, too, and have been for some time. (Much more on all that from the New York Fed here.) But one kind of debt default remains stubbornly on the rise: student loans, which in total add up to more than all U.S. credit-card debt and are much more likely to be in default than any other major debt category, far outstripping credit cards in the No. 2 default position.
On Monday, The New Yorker offered a sympathetic report (“A student-loan debt revolt begins”) about 15 former students of Corinthian Colleges, a dodgy and now largely defunct operator of for-profit schools, who intend to stop repaying their student loans as a matter of principle. “They believe that they have both ethical and legal grounds for what appears to be an unprecedented collective action against the debt charged to students who attended Corinthian schools,” writes Vauhini Vara, “and they are also making a broader statement about the trillion dollars of student debt owed throughout the country.” Senator Warren has called on the federal government to simply discharge the debts of former Corinthian students. An Occupy-affiliated organization called Debt Collective is pressing a similar agenda.
What does not seem to have occurred to Senator Warren, to Debt Collective, to the Corinthian 15, or to Vauhini Vara and the editors of The New Yorker is this: The students in question do not owe money to Corinthian Colleges. They owe money to third parties, those being private lenders and the federal government. As an instrument of protest, they might as well stop making their car payments, skip their rent, or boost mocacchinos from Starbucks — the people who lent them money are no more responsible for Corinthian’s woes than are their landlords and baristas.
This is classic leftist misdirection. The students in question took out loans and used their credit to purchase a defective product, no different from putting a bucket of magic beans on a MasterCard. They made poor decisions with other people’s money, which is not entirely surprising: Access to other people’s money is an invitation to making poor decisions. There is an excellent case to be made that they were defrauded by Corinthian — or, at the very least, that Corinthian failed to deliver on services contracted — and that the students are therefore entitled to a refund of the money they paid to the firm. But just as MasterCard is not responsible if you put a lemon on your credit card (you’d be shocked how many people purchase cars with credit cards), Bank of McNasty and Uncle Stupid are not responsible for legal adults who borrow money to buy subpar educational services. This is not to say that the students in question weren’t mistreated — it certainly appears that they were — but they were not mistreated by their banks.
Michelle Obama famously complained about having to make cumbrous student-loan payments early in life, blithely oblivious, as she tends to be, that one has a moral obligation to pay one’s debts, and that student loans are generally made at concessionary interest rates, meaning that somebody, somewhere, is doing you a favor by lending you money at below-market rates.
Part of the problem is that nobody much knows what a market-rate loan for a college education should really look like. Most student loans are either made by the federal government or guaranteed by the federal government; the 2010 Student Aid and Fiscal Responsibility (ho, ho!) Act, which was rolled into the Affordable Care (ho, ho!) Act, eliminated federally subsidized loans and replaced them with direct federal loans. If you think of the student-loan bubble as being like the subprime-mortgage bubble — and it is — then SAFRA “solved” the problem of subprime lending in the private sector by replacing it with subprime lending by the government. There are basically no underwriting standards when it comes to student loans, which are mainly made to young people who have little or nothing in the way of credit histories upon which to evaluate their creditworthiness. Intelligent approaches, such as taking into account the institution being attended and the degree being sought, naturally are unthinkable, implying as they do such inegalitarian outcomes as a Wharton MBA student’s being judged a better risk than a women’s-studies major down the road at Temple or an “individually designed major” major at Menlo College paying 40 grand a year.
See if you can spot the pattern: The federal government decides that health insurance is a right, but also decides that traditional methods of evaluating health-insurance risk are unfair (read: “politically unpopular”), gets directly involved in the market, and health-care prices go way up; the federal government decides that access to mortgage credit is a right, but also decides that traditional methods of evaluating mortgage-borrower risk are unfair (read: “politically unpopular”), gets directly involved in the market, and housing prices go way up before crashing and causing a worldwide financial catastrophe; the federal government decides that access to student loans is a right, but also decides that applying traditional methods of risk evaluation to those loans is unfair (read: “politically unpopular”), gets directly involved in the market, and college prices go way up . . .
If you make cheap money — credit at below-market rates — available for the purchase of X, then the price of X will typically go up. Dodgy operations like Corinthian (or Countrywide) will spring into existence to soak up the great raging streams of money being shunted into the X market. Just as people will buy more expensive cars when zero-interest financing is available, and people will buy more expensive houses when squat-down-interest-only-Crazy-Eddie-clown-show mortgages are available, people will spend money irresponsibly on higher education when they are spending somebody else’s money, which is exactly what is happening when the federal government arranges loans at concessionary rates. Sweetheart financing is a favorite federal gimmick, because the federal government, unlike a bank, does not have to account for or price the risks it assumes when making loans. If the federal government just gave students money rather than giving them money indirectly by offering them loans without the risk properly priced in, that spending would have to show up on a budget, somewhere. Discounted financing is one of the ways that the federal government spends money on political constituencies — college students, politically connected businesses and industry groups — without having to honestly account for the money spent.
But there’s more than $1 trillion in student loans out there, and you’re on the hook for a lot of it — not in a bank-bailout, too-big-to-fail, indirect way, but explicitly. And the default rate continues to climb — and the progressives are embracing loan default as a moral good. If you think that’s smart financial management, I know a guy who will make you a great deal on a silver tea service.