News Flash: Student Loan Industry Denies Subsidies Exist

I'm willing to concede that Jason makes a valid point that the guarantee represents a subsidy if he'll acknowledge two points: First, under current law, the government will not pay lenders $87 billion over the next ten years to make federal student loans -- in other words, that's not where the savings from eliminating FFELP comes from, and Second, the projected costs savings from eliminating FFELP represents profit, the margin, what's left over, whatever you want to call it, after the goverment lends money that costs it about 2 percent to families that would pay 5.6, 6.8 and 7.8 percent.

This blogger sets up a straw man in an attempt to confuse the issues facing the Senate as it prepares to consider student loan legislation. He suggests that lenders are misleading Senators by pretending the loan guarantee is not a subsidy. I am unaware of anyone in the FFEL program who has done this and don't believe the document he references does this. Nor am I aware of any Senator, or Senate staffer, that is not aware of the fact that the government reimburses lenders 97% on the dollar when a FFEL loan defaults.

Let take a look at why the "subsidy issue" is receiving more attention as the legislative process on "reform" legislation moves ahead. Lenders have been pointing out that statements by various administration officials referencing "excessive subsidies to lenders" hide the nasty truth that the borrower interest rate on student loans (both FFEL and Direct) is much higher than is necessary to cover the government's cost. Lenders have been making this point because groups like NAF would have readers believe that lenders earn 6.8 percent on an unsubsidized Stafford Loan "for doing nothing." As NAF may be aware, some on Capitol Hill are waking up to the fact that student loan borrowers do not fare well under the administration's plan (I would not say this if the President's promise of creating a Pell Grant entitlement indexed to CPI plus one percent had been kept, but the President and the Democratic Congress found better things to do with the "savings" to be derived by eliminating FFEL).

In terms of subsidies on student loans, let the record show that indeed federal reinsurance supporting FFEL loans is a subsidy but that, as accounted for under the Credit Reform Act, total subsidies (the estimated cost of the guarantee netted against special allowance and other cash flows on the loan) are estimated to be negative for FY 2009. That means the government is projected to make a profit on the FFEL program for loans made in FY 2009 (and, under the Direct Loan program, an even bigger profit, which is why they want to eliminate FFEL and have all student loans made as direct loans).

Let me also suggest a subtle observation: The guarantee on a FFEL loan is a subsidy to the borrower (and, if you insist, also to the lender, but definitely not only to the lender). Without the guarantee, most student loan borrowers would not be able to get a loan, at least not at a reasonable cost. If you don't believe me, take a look at the private student loan market. Even borrowers with FICO scores over 700 cannot get a loan in many instances and borrower interest rates on non-federal student loans are frequently well above 6.8 percent.

NAF and this blogger should be discussing the real issues involved with the pending legislation:

Is the budget accounting reflective of economic reality? (CBO Director Doug Elmendorf says "no.").

Will the Department be able to effectuate a transition to 100% Direct Loans by July 1, 2010? What do they plan to do if all schools are not ready by July 1, 2010? Is there a contingency plan?

Will the elimination of competition result in long term stagnation and a steady decline in the quality of services to borrowers? Why are some schools serving high-risk borrowers starting to make inquiries as to the availability of default aversion services once the guaranty agencies disappear?

Why are so many schools fearful of what 100% Direct Loans will mean to them in the long run? Are they just stupid (as I was told one political appointee at the Department commented)? Have they been seduced by lies from the FFEL community? (If you believe this, you have a very low opinion of school aid administrators).

Neither of the above commenters explained why the student loan industry is so hot and bothered if they aren't losing subsidies. Neither did they explain why, if the government loans to students are so bad, why the private industry is so unhappy with losing the nonsubsidies. After all, nothing is stopping them from making private loans without government guarantees.

"MYTH: Forcing all students to borrow Direct Loans will save billions over the next 10 years by eliminating huge subsidies being paid to private lenders.
FACT: Lenders are not being paid subsidies. This year, lenders will pay the government $9 billion in interest that is passed on from borrowers and in fees. (Source: Budget Appendix, page 388)"

If the loan industry is sending out this message, how can Relevant Critic claim that no one in the FFEL is claiming that the government is not paying subsidies.

It certainly sounds like Relevant Critic is bending pretzels talking about how much the government will make in the coming years and how the subsidies help the student by inducing private lenders to make loans. How about if the government just loaned the money directly to the students. Even if the interest rate calculation stayed the same as it is now, the students would be better off because more of them would get loans. The money that doesn't go to subsidize the lenders would go to the students instead. Then he says that private lenders won't lend to students without the guarantees because they wouldn't make any money at rates that compete with the government plan. You can't have it both ways.

Stagnation resulting in decline of services to borrowers?? What services are you talking about? Money is loaned, students pay it back. Are you claiming that private lenders do something special for the students besides collect the money after they graduate?

There may be other reasons that schools are "fearful of what 100% Direct Loans will mean to them", but one reason is that now the loan agencies won't be wooing the schools with paybacks in order to get them to send the students to the favored agency. I can assure that my school, a rather expensive private liberal arts college, isn't in the least bit worried. As a matter of fact they will be overjoyed that now the student body will be more diversified as more students that were shut out by cost can attend.

Thanks a lot blogger for such an informative blogging .Student loans haven’t always stuck to debtors, even those in bankruptcy, like glue.By allowing students to take out massive loans they had no intention to pay. But over time, this exception has evolved to include private student loans.