August 19, 2013
Last Friday, the President signed into law the student loan “compromise,” promising it would help rein in college costs.
The bill pegs interest rates on federal student loans to Washington’s cost of borrowing (the Treasury rate) plus 2.05 percent and caps interest rates at 8.25 percent. Congress says that this bill will cover 18 million loans, totaling about $106 billion this fall, and reduce the deficit by $715 million over the next decade. But Congress’s promises do not account for the $500 billion in student loans that are currently not being repaid and the one-eighth of students defaulting on their loans.
What will the unpaid loans and student defaults do to Congress’s promise? Likely force Congress to break it—at the expense of taxpayers.
The details are in the accounting practices. The Congressional Budget Office (CBO) has used two different accounting measures to evaluate the cost of the student loan compromise: the Federal Credit Reform Act (FCRA) and fair-value accounting (FVA). Currently, the CBO evaluates student loan costs under FCRA accounting practices, which require that the cost of federal student loans be estimated on “market rates,” but this accounting method does not account for the risk that some students receiving loans will not pay back the government as expected. This is especially problematic when about $180 billion of the $1 trillion in student debt is in default or forbearance.
FVA, on the other hand, accounts for the risk of default, reflecting the full cost of student loans and other federal credit programs. It is the standard accounting method for academic economists.
In June, the CBO released cost estimates using FCRA and FVA for federal student loans. Under FCRA practices, a loan deal using the Treasury rate plus 3 percent—not that different from the new deal passed by Congress—would yield savings of $37 billion this year and $184 billion from 2013 to 2023. However, under FVA, the student loan program will yield $6 billion in savings in 2013 and will cost taxpayers $95 billion from 2013 to 2023. That’s a major difference for taxpayers.