Reducing Interest Rates on College Loans Won't Give Borrowers Much Relief
Recently, Senator Elizabeth Warren introduced legislation to significantly lower interest rates on student loans, legislation that President Obama supported. Warren's bill would have covered the cost of lower interest rates by raising taxes on the wealthy. Not surprisingly, Republicans opposed the bill, and it did not get enough votes to move forward.
Ms. Dynarski points out that even a large cut to student-loan interest rates won't have much impact on individual students' monthly loan payments. Borrowers with $30,000 in student loans (which is the average amount that college graduates owe when they finish their studies) would only see a $44 reduction in their monthly loan payments if the interest rate on their loans was reduced from 6.5 percent to 3.5 percent--which is a big reduction.
Thus the recent hype about Senator Elizabeth's failed attempt to pass legislation to reduce interest rate on student loans is a tempest in a teapot. Even if Senator Warren's bill had bee adopted into law, it would not have given the mass of student-loan debtors much relief.
President Obama's Pay As You Earn Plan Is Too Cumbersome to Give Borrowers Much Relief
Dynarski also pointed out that the President Obama's Pay As You Earn program, whereby students make student-loan payments based on a percentage of their income, is so cumbersome that a high percentage of borrowers haven't applied for it even though they are behind on their loans or in default. One problem with Pay As You Earn is that the program does not respond quickly enough to borrowers who lose their jobs. A student-loan borrower's monthly loan payments are based on the borrower's previous year's income, so a borrower who is thrown out of work in mid-year would have to wait many months before seeing a reduction in the size of monthly loan payments.
Dynarksi and the Brookings Institution Propose Automatic Student-Loan Payroll Deductions
Dynarksi proposes an automatic income-based loan repayment program, whereby employers would simply deduct the appropriate college-loan payment from borrowers' paychecks just like they make deductions for federal income tax, Social Security contributions and health insurance. The borrower's monthly payment would fluctuate as income goes or up or down; and a borrower who is unemployed would pay nothing during the period of unemployment.
Dynarski's plan is a little more complicated than I've explained but not much. The proposal is set out in detail in a paper released recently by the Brookings Institution, which recommended that an automatic income-based repayment program be the default option for students who take out federal student loans.
Dynarksi's automatic income-based loan repayment plan has many attractive features. First of all, if fully implemented, it would completely eliminate all student-loan defaults. Any student-loan borrower who is employed would see a payroll deduction for student loans on every paycheck.
Second, an automatic paycheck deduction plan would virtually eliminate the need for loan collection agencies. The IRS (or perhaps the Department of Education) would in essence by a giant federal student-loan collection agency.
Long-Term Automatic Payroll Deductions for College-Loan Borrowers Is a Sharecropper Plan
What's the downside?
As I've said before, income-based student-loan repayment plans do nothing to stop the spiraling cost of higher education. Putting millions of students on income-based repayment plans might actually reduce the incentive for colleges an universities to get their costs under control.
Second, and far more ominously, in my opinion, putting students on long-term income-based repayment plans, whereby college-loan payments are automatically deducted from borrowers' paychecks over a period of 20 or 25 years, essentially transforms all young people who borrow money to attend college into a class of sharecroppers who fork over a percentage of their income over the majority of their working lives simply for the privilege of getting a college education.
And this is why I don't like the Dynarski/Brookings Institution proposal. But my best guess is that something like what Dynarksi and the Brookings Institution have proposed will eventually become the default option for most people who pursue postsecondary education.
Susan Dynarski. Finding Shock Absorbers for Student Debt. New York Times, June 15, 2014, Sunday Review Section, p. 8.