Colleges are currently incentivized to allow too many students to enter majors with poor return on investment while pocketing tuition checks.
One-time debt cancellation isn’t a solution to the structural problem with federal student loans.
E arlier this month, the Biden administration unveiled a plan to cancel hundreds of billions of dollars in student debt to garner votes in an election year.
The forgiveness plan is hardly serious, on both economic and legal grounds. Much like the 2022 Biden-administration attempt at forgiveness that was declared unconstitutional by the Supreme Court in 2023, the amount of student-loan forgiveness this time is extremely broad, aiming to provide some student-debt forgiveness to approximately 30 million people.
The original approach by the Biden administration was two-pronged. The first provided immediate student-debt cancellation (blocked by the Supreme Court on the grounds that the HEROES Act of 2003 was a faulty legal basis for the plan). The second was the SAVE (Student Loan Accountability Verification and Education) plan, which focuses on modifying repayment terms to ease the debt burden over time (essentially dropping repayment in half for many borrowers).
Since the SAVE plan was launched last year, nearly 8 million borrowers have enrolled, and about 153,000 received forgiveness in the total amount of $1.2 billion so far. According to the Penn-Wharton Budget Model, the new forgiveness plan (which incorporates essentially all of the student-debt forgiveness provisions that were declared unconstitutional by the Supreme Court in 2023), will cost taxpayers $84 billion, which in addition to the cost of SAVE comes to a grand total of around $559 billion. The SAVE plan is facing legal challenges of its own from Republican AGs.
The SAVE plan on its face promotes one nice idea, income-driven repayment (IDR), which is similar to income-share agreements in that debt payments are variable and tied to one’s income and ability to repay. That idea is similar to one championed by Milton Friedman in his 1955 essay “The Role of Government in Education.” However, what the SAVE plan largely does is offer massive debt forgiveness to borrowers who originally agreed to fixed-rate student loans.
One provision of the new Biden forgiveness plan (on top of SAVE) eliminates student debt for borrowers who currently have been in repayment 20 years or more, which amounts to a taxpayer-funded giveaway to wealthier Americans. This measure amounts to $25,541.39 in average forgiveness for 750,000 borrowers with an average household income of $312,976.57, according to Penn-Wharton Budget model numbers. In this respect, the program can hardly be considered debt forgiveness for the poor or those below the median income.
These measures will likely be ruled unconstitutional again by the Supreme Court. This time, the Biden administration is putting forward a different legal argument to justify its stance, saying that the Higher Education Act of 1965 gives the secretary of education broad powers to forgive student debt by having the ability “compromise, waive, or release” its claims against borrowers.
The reality is this: Congress has the power of the purse bestowed on it by the Constitution and no amount of legal reasoning changes that. In the words of Chief Justice John Roberts in his Biden v. Nebraska opinion, the Higher Education Act of 1965 only gives the secretary of education power to “cancel or reduce loans in certain limited circumstances.” Republican attorneys general from several states have now sued to block this latest attempt at student-debt forgiveness without Congress.
The student-debt mess (which will add to the trillions of U.S. dollars in debt outstanding) is a product of poor accountability by institutions of higher education for student outcomes and of government subsidies for student debt, the latter of which contributes to rising tuition costs. Research from New York Fed economists David O. Lucca, Taylor Nadauld, and Karen Shen published in the Review of Financial Studies finds that expanded federal student-aid programs add to higher college tuition charges. They find that every dollar in expanded aid leads to 60 cents in higher tuition when it comes to changes in subsidized loan maximums, with effects that are particularly acute among expensive degree courses offered by private universities.
Colleges are currently incentivized to allow too many students to enter majors with poor return on investment while pocketing tuition checks. Should taxpayers be rewarding and incentivizing such poor decisions and lax responsibility on the part of colleges?
Student-debt relief also raises the possibility of moral hazard. If there’s blanket forgiveness now, what’s to stop borrowers from accruing billions more dollars in student debt with the expectation that the taxpayer will forgive it again, and what’s to stop colleges taking advantage of that belief by increasing their tuition still further?
The answer to our student debt woes must include accountability on the part of institutions of higher education with policy changes that will fix their incentives to raise tuition for substandard education funded by government backed-student loans that leave students (or ultimately taxpayers in the event of forgiveness) on the hook. This unconstitutional one-time forgiveness plan is not it.