Seth Wenig/AP Photo
Lower-income households would get the greatest relief from student debt cancellation.
This story is part of the Prospect’s series on how the next president can make progress without new legislation. Read all of our Day One Agenda articles here.
As news gathered that President-elect Biden wants to eliminate student debt and more people learned that he could do it via executive order, the usual suspects trotted out their specious arguments to undermine the concept. Distressingly, the predictable libertarian detractors were joined by voices from ostensibly left-leaning organizations such as Brookings and New America, as well as some prominent former economic advisers of President Obama (Lawrence Summers, Jason Furman).
So we put together a handy guide on student debt cancellation (SDC) to rebut the naysayers.
Stupid argument No. 1: SDC is a regressive policy
Student loan debt is a marker of privilege among college-educated households. Therefore, SDC would perversely benefit the well-off. Or so the bromide goes.
But as economist Marshall Steinbaum points out, while the total amount of outstanding debt in the population is increasing as a function of income, SDC would reduce the burden of student debt more for lower-income indebted households. Put differently, lower-income households would get the largest relief relative to their incomes. This is a standard way to evaluate the distributional impacts of policy changes. In subsequent research by the Jain Family Institute, Steinbaum has demonstrated that SDC will reduce racial wealth gaps, as measured both by the ratio of white wealth to Black wealth across the wealth distribution, as well as the absolute difference in wealth between each distribution. The notion that SDC is regressive is just factually wrong.
Stupid argument No. 2: Student debt cancellation represents a significant loss in revenue to the federal government
A significant amount of student debt will already be canceled, thanks in large part to income-driven repayment (IDR) programs. IDR requires borrowers to pay a percentage (often 10 percent) of their discretionary income in monthly payments, and then forgives balances after 10, 20, or 25 years, depending on the program.
A new study by the Education Department finds that borrowers will pay back only $935 billion in principal and interest on $1.37 trillion in student loans held by the government. The study also finds that IDR is a major driver of projected losses, with borrowers on IDR programs repaying just 51 percent of their balances, compared to repayment rates of 80 percent for non-IDR programs.
SDC critics argue that expanded IDR better allocates relief to students who can’t afford their debt. But a 2020 Jain Family Institute study authored by Steinbaum shows that expanding IDR, as opposed to just reducing balances, will drive additional debtors toward non-repayment and, ultimately, cancellation. Expanded IDR will simply force people into 20 to 25 years of making pointless payments while inhibiting their ability to start families, buy a house, or open a small business.
Steinbaum demonstrates that majority-minority ZIP codes have much higher non-repayment of student debt, and that gap is widening over time. Right now, 62 percent of student loans in majority-minority ZIP codes have a current balance that exceeds the original balance, compared to only 49 percent of loans in majority-white ZIP codes. This suggests that a large slice of student debt is never going to be repaid, particularly among minority households. The meager lift in incomes from more education isn’t large enough to retire loans for a great many borrowers, and this problem is most acute among low-income households.
Stupid argument No. 3: SDC rewards many high-income households
Another criticism is that many of the potential beneficiaries of federal student debt forgiveness do not deserve to receive this substantial boost. After all, these critics argue, why should taxpayer dollars be allocated to pay off the debts of successful corporate lawyers, Hollywood plastic surgeons, or greedy Wall Street bankers?
This critique misses two crucial facts. The first concerns selection: The highest-income households have already left the student loan pool by paying off their loans. The second is less obvious: Higher-income households that have not paid off their loans likely refinanced their loans at a lower rate and also left the federal loan pool.
The annual interest rate of federally subsidized student loans is significantly greater than the interest rates available to high-income graduates. The interest rates of the “best” student loans the government offers are 2.8 percent APR for direct subsidized or indirect unsubsidized undergraduate loans and 4.3 percent for graduate loans. And studies suggest that the average student loan interest rate is 5.8 percent among all households with student debt. In contrast, high-earning graduates with a decent credit score can refinance their debt upon graduation at much lower rates of around 1.8 or 1.9 percent.
Consider a typical law school graduate with $165,000 in student loan debt, the national average upon graduating law school. By refinancing her federal loans to the market rate, she will save some $35,000 in excess interest payments if she plans to pay back her loans within ten years. That amounts to $300 in cost savings every single month. Anyone wealthy enough to qualify to refinance their student loans with private financial institutions does so due to this significant cost savings.
Accordingly, there are very few BigLaw attorneys or tech prodigies with outstanding federal loans. It is safe to assume that whoever has the means to refinance already did so. Therefore, we can forgive all outstanding federal student debt without conferring a meaningful benefit on high earners.
Stupid argument No. 4: SDC won’t help those who did not go to college
It is true that student debt forgiveness might not directly benefit individuals who did not go to college. But it would certainly benefit households in which at least someone did. And it would certainly help those families who sent their kids to college only to see them struggle to make a living, often relying on their parents for financial assistance.
More importantly, SDC is only one tool in the Day One Agenda policy tool kit. The Prospect has identified hundreds of policies that the Biden administration can deploy, without congressional approval, to better the lives of tens of millions of Americans, many of whom lack college degrees or student loan debt. This includes lowering prescription drug prices, strengthening antitrust enforcement, and mandating a $15-an-hour minimum wage at every firm that contracts with the U.S. government. SDC doesn’t impede action on any of these strategies.
Stupid argument No. 5: SDC won’t boost the economy
Debt forgiveness can be understood as raising borrowers’ after-repayment incomes, just as a tax cut raises after-tax incomes. The less debt you have to pay, the fewer monthly outflows devoted to relieving the debt, and the more you can spend. The question is how much of the avoided loan payments would borrowers end up plowing back into their local economies.
One answer lies in a recent natural experiment involving unanticipated COVID-19 stimulus checks. New research by the Becker Friedman Institute for Economics revealed that the checks did not have as big a boost for local economies as expected, because recipients put approximately 30 percent toward paying down debt, including student loan debt, and another 30 percent of the checks went to savings. This implies that borrowers would spend a sizable share of their debt relief if given the opportunity.
Economists have estimated the “multiplier effect” from student debt relief, equal to the total increase in nominal gross domestic product divided by the sum of the government’s total revenue loss from debt forgiveness and the increases on debt service paid to private investors. These estimates range from 0.56 (Moody’s) to 1.50 (the FAIR model). Using these inputs, Fullwiler, Kelton, Ruetschlin, and Steinbaum estimate that real GDP (in 2016 dollars) would rise between $861 billion and $1,083 billion over a ten-year period ($86 billion to $108 billion per year, on average).
Former Obama economist Jason Furman took to Twitter to suggest that SDC would generate tax implications, dampening any potential stimulus. But as Georgetown Law professor John Brooks pointed out, if debt forgiveness is done for the “general welfare,” a broad exclusion under the tax code applies: “This is why we don’t tax things like disaster relief payments, housing subsidies, payments to the blind, working training payments, etc.” In fact, debt relief right now could be classified as a disaster relief payment, the disaster being the coronavirus crisis.
SDC could also boost the economy in a subtle way, not captured in the multipliers, by allowing recipients of the relief to take greater risks. Small-firm formation is dying, and the harms from lost innovations from independent merchants could be substantial. People in debt are less inclined to take risks and start new businesses, and even for those with a taste for risk, it is hard to get a loan when the borrower is indebted. A 2007 paper co-authored by incoming Council of Economic Advisers chair Cecilia Rouse showed that indebted graduates gravitated to jobs with higher pay over their personal passions.
It’s even hard for student debtors to start their financial lives. Research from the Federal Reserve Bank of New York has shown that student borrowers refrain from purchasing homes or autos, and the Journal of Family and Economic Issues finds that student debt could be forcing people to delay marriage.
SDC could also free would-be debtors to pursue more fulfilling careers, rather than ones that will decrease their debt load. Doctors could go to work in communities where income is lower, and lawyers could take public-interest jobs.
Stupid argument No. 6: SDC won’t fix higher education
Today, the average American needs to earn about $22,000 more than the current median income to afford college. From 1969 to 2019, the average annual cost of a four-year public school has soared 3,009 percent. Lowering the cost of public higher education could significantly reduce the amount of borrowing.
In addition, a prospective student has no real way to determine the actual boost in earnings from a given degree. For instance, a recent study revealed that four years after graduation, the median earnings for those who graduated from open-admission, minimally selective, and moderately selective colleges in 2008 all hovered around $46,000 a year. The study also found that graduates from very selective schools only had a $5,000-a-year salary premium four years after graduation, in comparison to graduates from open-admission colleges.
If every school brochure were required to include a clear label, like the one placed on a cigarette pack, showing the before-and-after salaries of recent graduates from the program, we might witness a precipitous fall in tuition. This is especially true for continuing education and graduate programs, where information is even more opaque and brand-name schools leverage their reputation to peddle meaningless degrees.
All that said, SDC is a remedy for victims who’ve been wronged by past policy failures. That it will not solve problems with higher education going forward does not undermine this point.
Meaningful reform of the entire educational system is unquestionably required, and that would be the next logical step in the process. But without a Democratic majority in the Senate, there might be limited political tools to achieve this goal right now, when the need for a solution is most acute. The Biden administration should first use all means at its disposal to better the lives of existing borrowers, while simultaneously figuring out how to solve the overarching problem.
