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In “Game of Loans,” Beth Akers and Matthew Chingos attempt to dispel the popular narrative that defaults on college loans will be the next trillion dollar American financial crisis. On the contrary, they provide compelling evidence that paying for the costs of higher education is relatively feasible under the plethora of public financing options available. But where “Game of Loans” falls short is in its trivialization of the diverging price and value of education in today’s labor market.
This isn’t to say that Akers and Chingos are wrong in their overall analysis. Workers with a bachelor’s degree put an average of $276 towards repaying their student debt each month, which is relatively comparable to other expenses. Workers with more schooling – and more debt – should be even less worried, as average annual incomes of advanced degree holders are in excess of $100,000. Indeed, the top fifth in terms of earnings hold about 44% of all education debt. College remains a worthwhile investment, despite the apparent risks.
Student borrowers can find themselves in situations where the degree they invested in does not produce the financial rewards they anticipated. Graduates with a bachelor’s degree earn about 74% – or $1 million – more than their non-college peers over their lifetimes. The New York Fed puts the rate of return on a bachelor’s degree at about 15%, and it has held constant for the past decade. But, there are some issues in evaluating the substance of this investment. From p. 70:
…college-educated workers are paying more for college and not seeing significant increases in their earnings, but are avoiding the increasingly poor outcome of entering the labor market with only a high school diploma.
So, might this return be from something else other than education? It’s hard to believe that some sort of omitted variable bias isn’t present, given that many of the characteristics of economic success – intelligence, work ethic, and creativity – overlap with those conducive to success in college as well. There could be some self-selection issues at play here.
More importantly, different levels of higher education attainment should send clear signals to employers and prospective students about level and quality of investment. Workers with a bachelor’s degree or higher are more desirable when they prove their productivity and value upon graduation. But these signals are made a lot less clear on both the supply and demand side when students bare all the risk.
Akers and Chingos do a much better job of acknowledging the issue at hand here: uncertain future expectations. For example, take my own major – economics – where an entry-level salary on Capitol Hill or at a think tank runs in the $40,000 range, but is nearly twice that at a consulting firm. Congress restricts what individual level statistics can be reported on student earnings after graduation. They assume the impetus should be on universities to improve this internally as they compete with one another for the most talented students. But, colleges have no incentive to increase transparency if they don’t share some of the risk or gains felt by their recent alumni in the job market.
A possible solution to the signaling dilemma presented by Akers and Chingos could be an income share agreement between universities, students, and employers. As Andrew Kelley, the former director of the AEI Center on Higher Education, explains:
Policymakers could provide colleges with a direct stake in the success of their students by requiring them to pay back a percentage of any defaulted dollars. Such a policy would encourage colleges to guide students to programs that are likely to provide a positive return. It would also have them share some of the risk that students and taxpayers now bear on their own.
Under an ISA, private investors fund students in return for a share of their income over a fixed period of time. These agreements are not loans in that there is no outstanding balance. If graduates do better than expected, they pay more, but they will pay less—perhaps nothing at all—if higher wages do not materialize.
Clearer, risk sharing finance programs will help students by spelling out the actual demand for, and potential return on the school choice and career path that they are best suited for. Kelly goes on in the WSJ to define ISAs as “essentially equity instruments for human capital”, stating:
ISAs make financing available to students regardless of background without a government guarantee or subsidy. They would also alert students to high-quality, low-cost programs, as investors will offer the most favorable terms for programs with a reasonable price tag that help graduates succeed in the workplace. This, over time, could curb tuition inflation, and lower the cost of college. But most significantly, ISAs protect students from the severe downside risk of traditional student loans.
In other words, proper market signals will enable students to make informed, risk-protected or risk-aware decisions about how they invest in their futures. Akers and Chingo agree with this assessment, and underscore the need for a “unit record system” compiled from IRS, BLS, and DOED statistics to supplement the lending process. The fact that federal aid packages often come out after admission, and the variability of the aid packages available under the current system, does little to address to recognize student-side risk. So, better reporting and risk sharing between students, universities, and industry can help address the informational constraints inherent to today’s repayment problem. Certainly not an easy task, but one that has gotten bipartisan support here, here, and here in the last congress.
Drew Gobbi is an AEIdeas intern.
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