Showing posts with label SLABS. Show all posts
Showing posts with label SLABS. Show all posts

Tuesday, September 24, 2019

Like driving into a CAT 5 hurricane, the Department of Education is taking the student-loan program toward catastrophe

I lived in Houston when Hurricane Rita hit the Gulf Coast in 2005. Weather forecasters predicted that Rita would make landfall in Galveston Bay and that Galveston and towns south of Houston would suffer massive flooding and wind damage. The hurricane predictors also warned that parts of Houston would flood.

Responding to these warnings, hundreds of thousands of people--perhaps a million--fled Greater Houston in every direction. Some Houstonians traveled west toward San Antonio on I-10, some drove up I-45 toward Dallas, and others evacuated to the east on I-10.

My wife and I decided to head east toward Baton Rouge, where we could shelter with family. But we miscalculated. Our major mistake was to evacuate too late. As we drove east on I-10, we discovered that the highway was clogged with cars as were all auxiliary routes and surface roads.

Moreover, as we listened to our car radio, we heard the hurricane experts change their prediction about where Rita would make shore. It would not batter Galveston, they said; it would make landfall in southwestern Louisiana near the town of Cameron.

After about an hour on the road, my wife and I reached these conclusions. First, we would not reach Baton Rouge before Rita made landfall because the Interstate was fast turning into a parking lot. Second, we would run out of gas before reaching our destination and become stranded on the highway. And third--and perhaps most importantly--we were driving straight into the storm!

So we turned around and headed home to Houston. We arrived at a deserted city, but the Alabama Ice House was open and serving cold, draft beer to a small group of patrons. I still remember the taste of my ice-cold Red Stripe, served by a bartender who didn't give a damn about hurricanes. In the end, we suffered no damage from Rita.

After that experience, I vowed to pay closer attention to oncoming storm and evacuate early if I had any indication that a hurricane was headed my way.

The federal student-loan program is the economic equivalence of a CAT 5 hurricane hovering just offshore of our national consciousness. Education Secretary Betsy DeVos has described the program as a looming thunderstorm but she seems intent on driving straight into it.

As everyone knows from listening to the media, 45 million Americans have outstanding student loans that now total $1.6 billion. As DeVos has publicly admitted, more than 40 percent of those loans are "in distress" and only about one debtor in four is paying back both principal and interest on this debt.

More specifically, we know that 7.3 million college borrowers are in income-driven repayment plans that are designed so that people will never pay off their loans. More than 5 million people are in default, and another 6 million have loans in deferment or forbearance.

That's 18 million people whose total indebtedness grows larger by the month. Very few of these 18 million souls will ever pay back their student loans.

What is the U.S. Department doing about it? As I said, Betsy DeVos is driving full speed into the storm.  She refuses to grant significant debt relief to the people who signed up for the Public Service Loan Forgiveness Program--granting only about 1 percent of the applications.

And DeVos's DOE is doing everything it can to deny distressed student-loan debtors relief in the bankruptcy courts. DOE or its hired gunslinger, Educational Credit Management Corporation, fight nearly every student debtor who attempts to discharge student loans by filing for bankruptcy.

DeVos is also slowing down and complicating the process whereby college borrowers can have their student loans forgiven on the grounds that their college or school defrauded them.

Is the student-loan program in a bubble similar to the housing bubble of 2008? Yes, it is. In fact, when the student-loan bubble bursts, the suffering will be greater than the home-mortgage disaster.

The Democrats are "woke" about this crisis and Senators Warren and Sanders propose massive debt relief.  As I have said in a previous commentary, I am OK with their proposals; but politically that is not likely to happen.

As I have been saying for a quarter-century (yes, really), the best solution to this train wreck is to allow insolvent student-loan debtors to discharge their loans in bankruptcy. The Democrats have introduced legislation to accomplish this, and several Democratic presidential candidates are among the bill's co-sponsors.

But that bill is going nowhere, in spite of the fact that the Democrats hold the House of Representatives.  So we have two political parties that are ignoring the hurricane warnings. The Democrats decry the situation without doing anything about it in Congress, and the Republicans are racing to the center of the storm, oblivious to the human disaster that is building like a tropical depression in the Gulf of Mexico.

This will not end well for anyone.



Thursday, April 11, 2019

Rep. Maxine Waters didn't ask mega-bank executives a stupid question at a congressional hearing; She asked them the wrong question

Congresswoman Maxine Waters, Chair of the House Financial Services Committee, asked seven big-bank executives an ignorant question when she had them appear before her committee earlier this week.

“What are you guys doing to help us with this student loan debt?" Waters asked the bankers.  Three of them  separately informed Waters that their banks have been out of the federal student-loan business since 2010, when the federal government began dispersing student loans directly. 

Ms. Waters apparently didn't know that, which must have been embarrassing to her. Nevertheless, Waters did not ask a stupid question. She asked the wrong question. In fact, several banks are involved in the private student-loan market: Wells Fargo, Citizens Bank, Suntrust, and Sallie Mae--to name a few. 

And it is a dirty business. Several banks are bundling their private student loans and selling them to investors as student-loan backed securities called SLABS, very much like the mortgage-backed securities that went south during the 2008 home-mortgage crisis. 

Moreover, most banks require student borrowers to find co-signers for their private student loans, which usually means Mom and Dad.  If a student defaults on a private student loans, the co-signer is on the hook to pay back the debt.  Can a co-signer discharge a child's student loan in bankruptcy? Probably not.  When Congress passed the so-called Bankruptcy Reform Act in 2005, it inserted a clause in the Bankruptcy Code making private student loans nondischargeable in the absence of "undue hardship."

So this is the question Congresswoman Maxine Waters should have asked the bankers who were arrayed before her at the Financial Services Committee hearing yesterday. "Do you support a change in the Bankruptcy Code that would make student loans dischargeable in bankruptcy like any other consumer debt?"

Put another way, she might have asked the bankers if they support Representative John Katko's bill to remove the "undue hardship" language from the Bankruptcy Code, which would allow destitute debtors to shed burdensome student-loan debts in the bankruptcy courts. How would the bankers have answered if Maxine Waters had asked them the right question? 

And here are a two questions for Congressman Waters:

Do you support Congressman Katko bill, which calls for taking the "undue hardship" language out of the Bankruptcy Code? 

Will you agree to be a co-sponsor of Representative Katko's bill, even though Mr. Katko is a Republican?

Megabank CEOs: "We don't know nothin' bout no student loan program."





Sunday, January 8, 2017

The Student Loan Bubble: Eerily Similar to the Home Mortgage Crisis

A few months ago, Steve Rhode posted a thought-provoking blog titled "The Student Loan Bubble That Many Don't Want to See."  He argued that student-loan indebtedness is in a bubble that will soon burst, creating two huge problems:

First, when the student-loan market collapses, postsecondary education will be out of reach for most people,  which will "put a drag on the overall economy as fewer and fewer people will be able to pay for tuition that outpaces inflation."

Second, a sharp contraction in federal student-loan revenue along with a shrinking student base will force many colleges to cut tuition, putting them under enormous financial stress. Rhode predicts that "[m]any schools, public and private, will fail."

Mr. Rhode sees a parallel between the the student loan program and the overheated housing market that led to a global financial crisis in 2008.  Just as financiers packaged home mortgages into mortgage-backed securities called ABS, the banks have bundled student loans into so-called SLABS, or student-loan asset backed securities.

The home-mortgage market went into free fall when investors woke up to the fact that the ratings services (Moody's, Fitch, etc.) had rated ABS as investment grade when in fact a lot of them were junk because they were packed with mortgages that were headed for default.

Now we see Moody's and Fitch downgrading SLABS based on the fact that student borrowers are not paying off their loans as investors expected. More than 5 million borrowers have signed up for income-driven repayment plans that lower monthly loan payments and stretch out the repayment period from 10 years to 20 or even 25 years. SLABS investors now don't know when or how much they are going to be paid on their investments.

Some policy commentators reject the notion that the student-loan market is in a bubble. In a book published last year, Beth Akers and Matthew M. Chingos wrote: "Student loans have a zero chance of becoming the next housing crisis because the market is too small and essentially functions as a government program rather than a market." Akers and Chingos point out that student debt represents only 10 percent of overall consumer debt while home mortgages accounts for 70 percent of household indebtedness.

Personally, I think Steve Rhode is right: Higher education is sustained by a student loan bubble that the nation's colleges and universities refuse to see. In fact, there are eerie similarities between the housing market before it crashed in 2008 and the current level of student-loan indebtedness.

First,  higher education at many colleges and universities is wildly overpriced, just as the housing market was overpriced in the early 2000s. This is particularly true in the for-profit sector and at private liberal arts colleges.

As as been widely reported, liberal arts colleges are now discounting tuition for freshman students by almost 50 percent--a clear sign that their posted tuition prices are too high. And for-profit colleges are seeing enrollment declines. University of Phoenix, for example, has seen its enrollments drop by about half over the past 5 years.

Second, the monitoring agencies for both markets failed to do their jobs. As illustrated in the movie The Big Short, the financial ratings agencies rated mortgage backed securities as investment grade when in fact those bundled mortgages included a lot of  subprime mortgages.

Likewise, the Department of Education reports three-year default rates for student loans that vastly understates how many student borrowers are failing to pay back their loans. DOE recently reported that about 10 percent of the most recent cohort of student borrowers defaulted within three years. But the five-year default rate is 28 percent; and the five-year default rate for a recent cohort of students who attended for-profit schools is a shocking 47 percent.

And of course the government's vigorous effort to get distressed student borrowers into income-driven repayment plans also helps hide the true default rate. A high percentage of people who enter IDRs are making loan payments so low that they will never pay off their loans.

In short, Steve Rhode's analysis is correct.  A rising level of student-loan debt has created a bubble; and the bubble is going to burst. Colleges raised tuition prices far above the nation's inflation rate, knowing that students would simply take out larger student loans to pay their tuition bills. Millions of Americans paid too much for their postsecondary education and can't pay back their loans.

So far, the Department of Education has hidden the magnitude of this crisis, but the game will soon be up. Colleges are closing at an accelerating rate, stock prices for publicly traded for-profit colleges are down, and long-term default rates are shockingly high.

It is true, as Akers and Chingos pointed out, that the student-loan market is not nearly as large as the home-mortgage market when it crashed in 2008. But Akers and Chingos fail to acknowledge the enormous human cost that has been imposed on millions of Americans who took out student loans in the hope of getting an education that would lead to a better life.

Instead, all many Americans got by taking out student loans is an enormous debt load that they can't pay off or discharge in bankruptcy. Eight million Americans have defaulted on their student loans; 5.6 million are in income-driven repayment plans that stretch their payment obligations out for as long as 25 years, and millions more are playing for time by putting their loans in forbearance or deferment.

References

Beth Akers and Matthew Chingos. Game of Loans: The Rhetoric and Reality of Student Debt. (Princeton, NJ: Princeton University Press, 2016).

Anamaria Andriotis. Debt Relief for Students Snarls Market for Their Loans. Wall Street Journal, September 23, 2015.

Patrick Gillespie. University of Phoenix has lost half its students. CNN Money, March 25, 2015.

Adam Looney & Constantine Yannelis, A crisis in student loans? How changes in the characteristics of borrowers and in the institutions they attended contributed to rising default ratesWashington, DC: Brookings Institution (2015).

Steve Rhode. The Student loan Bubble That Many Don't Want to See. Get Out of Debt Guy, July 15, 2016.

Amy Thielen. Declines at For-Profit Colleges Take a Big Toll on Their Stocks. The Street, May 8, 2015.

Kellie Woodhouse. Discounting Grows Again. Inside Higher Ed, August 25, 2015.