Student Loan Bubble

Occasionally in the media you’ll hear worrisome people preaching that student debt is going to be the next bubble to burst.  That it will be worse than the housing market crash of 2008, and will catapult us into a deeper recession that may actually turn into a depression.  This is the fear-mongering American media, taking something small and making it into a huge issue so that people become more fearful than necessary.  God forbid actual news gets covered that really affects us.

An economic bubble is pretty much a group of assets that increase because of a perceived value of the underlying asset or a perceived lack of supply of that asset.  This is what happened to the housing market.  Housing prices kept increasing in certain areas because of a perceived value.  The problem comes when you mortgage this overvalued house.  On a macroeconomic level this is an economic catastrophe, especially when the perceived value of these assets plummet, hence the bursting of the bubble.  Student loans are treated in the same fashion, except instead of a house the underlying asset is a college education.  When you go to college, sometimes you have to take on debt (the average amount of debt for a 2010 college graduate was just over $24,000).  The banks that issue these loans don’t keep them on their books, they sell them as bundled products to other investment companies so they can issue more loans.  It has the same look and idea as collateralized mortgage obligations but they aren’t exactly the same.  We need to focus on the essential similarities:

-Issued by banks to fund an expenditure

-Sold by banks as bundled products to investment companies

-Huge amount of total debt for both the mortgage market and student loan market

These similarities may make you suspicious, but sorry to burst your bubble but the student loan market cannot crash like the housing market did in 2008.  The reason for this is because it’s not a true bubble.  A college education is an intangible asset, so the value doesn’t fluctuate according to supply and demand.  If the price of a college education falls, it doesn’t tie directly to your net worth.  You’ll be mad you paid more than you should have but it won’t effect you as much as if the value of your house dropped 20%.  Another reason is that mortgages are much stricter than student loans.  People have the option to defer on their loans.  More and more you defer, the total amount of your debt increases because of the compounding of interest.  After a while the loans can become overwhelming, but this is not a reason to scare the American public by saying the student loan market is going to crash.  Obviously we should take on the smallest amount of debt as possible, but sometimes people have to finance their entire education with loans.  This isn’t a terrible thing, although if you elect to go down this road be smart about it.  The risk of the “bubble” bursting is on a larger economic scale rather than the cost of your education.  The risks include but are not limited to high unemployment, dying industries, and outsourcing.

People that are considering going to college should do so responsibly.  Don’t pick the private school because it has a cool campus and is close to the beach, and don’t pick a major that has absolutely no earning potential upon graduation.  It comes down to responsibility.  The reason we go to college is to educate ourselves so that we can increase our earning potential in the future.  Majors that fulfill this reason are business, engineering, and teaching.  I picked these majors because you can make a career out of them with just a bachelor’s degree.  These conditions should be addressed in the issuing of the loan, and not realized upon the receiving of the first student loan invoice. 

Even if more people start deferring on their loans, the availability of loans won’t change.  The main reason for this is political.  America needs young people to go to college for competitive reasons.  We will not be able to compete with rival countries for science, math, and engineering jobs if we don’t even have kids going to college anymore.  It’s a harsh reality that we are falling behind in these fields to other countries, but it’s true and after a while the government will put forth legislature and policy to change this.  I think that they will either subsidize tuition for students who choose technical majors and/or they will pressure universities to decrease tuition.

Don’t let the media scare you about going to college.  We do need to be more practical in the choice of our majors and we need to understand the actual cost of college.  If you weigh the pros and cons of each college, major, and earning potential the choices become fairly obvious.  Deferring on your debt obligation is not a solution, because this only makes your life more difficult.  If you have legitimate reasons to defer then do it but you should opt to pay the interest in the deferral period so you avoid the compounding effect.  We need to remember the point of going to college.  We need to be more practical in our college decision, a bubble won’t necessarily burst but thousands of students defaulting on loans will be a serious economic problem.