Why the Interest Rate Debate Doesn’t Matter

Michael Lux Bankruptcy, Blog, Lower Payments, News, Student Loans 14 Comments

With federal student loan interest rates set to double July 1, there has been much debate over what should happen with the rate.  However, the real issues facing those with student loans continue to be ignored.

The news and discussion regarding the student loan debate reminds me of one of my favorite moments in Butch Cassidy and The Sundance Kid.  Butch and Sundance are on the run, and they are trapped on a high cliff overlooking a river.  Butch turns to Sundance and says, “lets jump.”  Sundance refuses, finally admitting that he can’t swim.  Butch maniacally laughs, “Are you crazy? The fall will probably kill you.”

Like the water below, the interest rates on Stafford loans are a real concern, but in the debate we have lost track of the massive cliff that we are overlooking.  In the case of student loans, there are actually three major problems that make up the cliff in which many Americans are perilously perched.  If the government really wanted to address the student loan debt crisis, they would focus on: 1) Lowering the cost of a college education 2) Helping reduce the aggregate student loan debt, and 3) Modifying bankruptcy laws to encourage responsible lending.

Problem # 1: The Rising Costs of College

A college education costs more now that it ever has before.  According the US Department of Education National Center for Education Statistics, the cost of a college education is nearly 600% more than what it was one generation ago (30 years).  Adjusting for inflation the average yearly cost of a college education in 1980 was $8,756.  Thirty years later the cost has nearly tripled to $21,657.

Not only has government funding for education dropped, but also the percentage of students attending college continues to grow.  The increased demand for education and the reduced support from the government equals significantly higher costs.

Problem # 2: Massive Existing Student Loan Debt

The total student loan debt in the US has jumped to over 1 trillion dollars.  That means Americans owe more in student loans than any other type of debt except mortgages.  Its been argued that this massive amount of debt is the source of the next great economic crisis.  Others argue that student loan debt is crushing the American Dream.

Regardless of the lens in which you look at student debt, it can’t be denied that for this generation of Americans, many are delaying things like marriage and home purchases.  Not only is this this bad news for the borrower who is forgoing many large purchases, but it is bad for the economy and the country as a whole.  The recent recession has created a situation in which many recent grads struggle to find jobs, and those that do find jobs often find themselves under employed.

There is no shortage of student loan horror stories.  Many of these borrowers are dealing with private lenders and their unforgiving terms.  Nearly all of the solutions proposed, including those by President Obama, do not address the problems of private loan borrowers.  For many, a slightly lower payment on certain loans is appreciated, but it is a drop in the bucket of a much larger and more substantial problem.

Problem #3: Bankruptcy Laws

While it is not impossible to discharge private loans through bankruptcy, it is exceedingly difficult and almost never happens.  Not long ago, student loans could be discharged through bankruptcy after a number of years passed since graduation.  The possibility of bankruptcy forced lenders to closely evaluate potential borrowers before approving financing for any loan.  Today, that is not a problem.  If a student defaults on a loan, the lender can garnish wages and collect.  There is almost no risk to student loan lenders.  Even the federal government managed to make a profit of 51 Billion Dollars on student loans.

The problems associated with the lack of bankruptcy protection are very similar to those that led to the sub-prime mortgage crisis.  Irresponsible lending puts the borrower in a position where it is nearly impossible to pay back their loan.  In the case of the sub-prime mortgage crisis, it led to a recession.  We have yet to see what will happen with student loans.

Arguments that say, “you took out the loan, you should accept the consequences” are not without merit.  However, they miss two key points.  First, bankruptcy laws in the US were created to give people a fresh start.  If you get in trouble with car payments, a mortgage, or credit card debt, you can file for bankruptcy and work your way back.  However, if you are saddled with too much student loan debt, there is no chance at a fresh start.  Second, lenders are in a far better position to evaluate the risks of a potential loan.  An 18 year old recent high school grad has no idea what their earning potential is, nor do they know the risks associated with student loans.  Lenders are in a far superior position to address these issues, but have no incentive to be responsible due to the dangers of bankruptcy.  Think about it this way, would a credit card company ever give an 18 year old a $30,000 line of credit?

Final Thoughts

If the Federal Government were to take action to address any of the above three problems, it would make a meaningful difference for all borrowers, future and present.  For example, if bankruptcy became an option, lenders would be encouraged to help borrowers find a way to pay back their loans.  Better yet, if the costs of college were lowered, less loan funds would be necessary, and the need for bankruptcy would be lessened.

Ultimately, passage of legislation lowering the interest rates can be helpful to many borrowers across the county.  But if your worries are limited to the Stafford Loan interest rates, you are only thinking about the water below.  Its time to think about the fall.


  • I’m sure they government will continue to kick the can down the road as they’ve done on so many other issues. The costs of college are outpacing the anticipated salaries at such a high rate, it’s completely ridiculous. Although, if people keeping borrowing to pay, the rates will keep climbing.

    • You are right Wayne. It seems like the government, lenders, and colleges all have no incentive to address these issues as they all benefit from the system. Perhaps nothing will change until students start refusing to pay the staggering costs. Despite all the evidence, it could be a tough sell.

  • I absolutely agree that the high costs of tuition is a big issue. Why is a bottom tier university charging the same amount or almost the same amount as a top tier school. And for all universities, it seems like a lot the money is spent on facilities, dorms, and other things to make their catalogs look nice, but not things that really are required for educating students. As for student loan interest, my co-workers have no problems with the stafford loans, it’s the private loans that are killing them. And I’ve heard stories of private loan companies pushing extra loans on young unsuspecting kids…loans in excess of the amount of tuition.

    • I couldn’t agree more Andrew. Any solution to the student debt crisis has to address the billions of dollars in private loans. Most of the people I talk to who have real problems with their student loans are dealing with private loan issues.

  • I hope the higher rates help students realize that loans are not free money and pushes them to borrow less and repay faster.

    • Hopefully the student loan debate playing out in the media puts some people on notice, but its hard to get an 18 year old to do that sort of long term economic thinking.

  • To point number three, I’m curious what you think is the distinction between bankruptcy with consumables and discretionary spending versus non-material education. For me, I think the bankruptcy laws make sense and wage garnishment with student loans is fair because there is no recourse on a default. Students don’t pay a down payment and there’s no ability to repossess a degree.

    I don’t know. What do you think?

    • Your point about bankruptcy is a good one. Though there are many people who would gladly “give back” their degree to have the debt disappear, the fact is that it just isn’t an option.
      For me, the issue boils down to what bankruptcy is about on a fundamental level. Its a chance for people to get a fresh start. In the near future I will be posting a couple interviews with people I think are very deserving of that fresh start. The concern about people graduating and just declaring bankruptcy is very valid, but I think there is a middle ground to be had.

  • When it comes to college, students these days really have to think through why they want to go to college in the first place. Only go if that degree or what you’re learning is essential to what you want to do for rest of you life. Don’t go, just to go.

    • I agree with half of that, students these days really do need to think through their higher education decisions. It’s very important to know what they are getting into. However, I don’t agree with only going if it is essential to what you want to do for the rest of your life. There is great value in a college education for many different reasons, but you don’t want to be stuck spending the rest of your life paying it off.

  • Excellent article. I shared it on Google Plus and encourage others to do the same.

    I predict that problem #2 (massive existing student loan debt) will lead to legislative action on problem #3 (bankruptcy laws; student loan debt will be easier to discharge) which in turn will mitigate problem #3 (the rising cost of college).

    • I hope your prediction is right. These problems are all interconnected, so hopefully we can find a plan that addresses them all.

  • Grisel Calderon

    I graduated college in 1999, but I got ill and was never able to attain a position paying sufficiently to repay my loan, not to mention that I was 50 yrs. old when I graduated and obviously my medical problems have increased. What can I do?

    • Grisel, it sounds like you are in a difficult situation. I can’t really offer specific advice, because their is much that I don’t know about your individual situation. However, I can say this, a student loan debt problem only gets worse with time. The best thing you can do is call your lenders and explain your situation. If you can work with them to find a plan that works for everyone, you will be on the right track. You might also want to research whether or not your illness qualifies your for any student loan related programs. Finally, if these are federal loans, look into Income Based Repayment, as this program has helped many people in difficult financial circumstances.