“Credit Crunch” is one common way to describe America’s current economic situation. This basically means that the financial sector of our economy is struggling from a lack of funds from which they can offer credit to consumers, students, and businesses. The problem appears to be spiraling, as a lack of business credit is leading to lost jobs and lost jobs are leading to more loan defaults that end up further draining what the banks have available.
Student loan providers are facing many of the same problems, and this is on top of the problems they usually face like higher than average default rates among student borrowers. Federal lending programs are supposed to offset the extra risk that student loan companies take on, but many of these subsidy supports were removed in the last year in response to the peak of profitability that financial businesses reached about two years ago.
Now, a variety of proposals are floating around to restore profitability to the student loan industry. Ironically enough, many of the plans are many times more generous than the original system that was just last year the target of outrage and accusations of inflated profits at the expense of tax payers and student borrowers. One plan, backed by student loan companies and some Congressional leaders, mimics the way the Federal Reserve “bailed out” the banking and financial institutions: it would allow private companies to exchange risky student loans with the Department of Education for government securities.
While it would ensure that lenders have money to lend, the other effect is lowering the value of those government backed securities, and by extension, the dollar. This method of bailout is largely responsible for recent, sharp rises in gas and food prices.
If lenders are able to sell student loans to the Department of Education while retaining service and origination payments, the profitability would be guaranteed and the risk would be distributed throughout the entire economy.
Of course, the alternatives must be considered. The direct federal loan program is attracting more college participation, and although it is known for inefficiency it would still allow any gains made through paid loans to come back into the funding system. Allowing loan companies to adapt or fail would probably drive down the cost of education, but at the expense of declining quality standards in colleges & universities. If less students could find loans, schools would be forced to eliminate staff and increase class sizes in order to charge lower tuition that more students could afford. Many schools deep in their own debt might fail outright.