The Big Shakedown

Michael Dannenberg is right, it's time to put an end to the ideological war over the two major federal student loan programs. It's time to look at the two pragmatically and in their totality. Which one does the best job, not which one is cheapest for the government or ideologically chaste or benevolent? If we can accept that Federal Express does some things better than the Postal Service and the Postal Service does some things better than Federal Express, then we can sit down and have a rational discussion about what is the best way for the country to make low-cost loans available to students so they can go to college.

It is extraordinary that there has been only one consistent voice stating that the credit markets have not threatened the availability of student loans. There always seems to be a naysayer and this blog has certainly filled that roll. Too bad that virtually no one agrees with you, even those who have been critics of the FFELP in the past. From Congressman George Miller, chairman of the House Education and Labor Committee: "The proposed actions outlined by the Department reflect a thoughtful approach to implementing a key provision in our legislation to address the liquidity issues facing some lenders, at no additional cost to taxpayers." Was he among those who were duped as you imply? Was he a victim of a cynical game of chicken on the part of lenders? Or is there perhaps a simpler answer? Perhaps, Chairman Miller reached out to experts across the field of student loan finance, informed himself of the situation, held a well-timed hearing on the issue, responded appropriately, and urged quick action by the Department of Education. When the Department announced their measured plan this week, Chairman Miller praised it. Perhaps, too, there are those who get the math and understand the program better than it appears in this post. For example, the "trust" available at commercial paper plus 50 basis points in only for 15 months, during which time virtually all of the loans will be in school, earning commercial paper plus 119 basis points (not the higher 179 basis points when the borrower goes into repayment). The remaining margin is hardly a gift and must the annual affect of servicing, origination, and fees (lenders pay 1% up-front to the government). Obviously, this is not a give back to lenders. From another FFELP critic, quoted in the LA Times: "I would commend them on their speed and creativity in developing this short-term solution," said Robert Shireman, director of the Project on Student Debt in Berkeley. "It provides lenders with the same or similar access to funds that they had before the credit crisis, so that for at least the next year they will be able to make student loans like they did in the past." What has become crystal clear during the credit crisis and its affect on the student lending is that there are those who are open-minded and seek out the answers and then there are those who simply react in a kneejerk fashion without really understanding the issue. You pick which applies here.

I agree with Alex Hamilton. FFEL is like the Postal Service, because whatever loans those lenders and agencies manage to deliver, Congress has guaranteed them a stream of income--arbitrage without risk. Direct Loans is like Federal Express, because they have to compete to get the contract to do the work, and they lose the business if they don't perform well and at a reasonable price. 

Robert Shireman is the Directof of the Project on Student Debt and Institute for College Access and Success.  The New America Foundation has received financial support from a foundation subgrant awarded through the Institute for College Access and Success as well as other foundation sources, such as the William & Flora Hewlett Foundation and Bill and Melinda Gates Foundation.

Thanks to Higher Ed Watch for providing perspective. It is indeed proper to question how this plan was put together: were borrowers (presumably the beneficiaries of the plan) at the table? taxpayer representatives?

The student loan scandals of 2007 and the credit crunch of 2008 had a salutory effect on the student loan industry, shaking out several thinly-capitalized and ethically-challenged lenders. How many will be saved and let back in by this plan? What alternatives were discussed? Was there ever a moment when the Secretary asked Sallie Mae to put the gun away before agreeing to sign papers thrust in front of her?

GAO has been asked to monitor this process and report to Congress. This should be interesting: it is most unusual for the legislative branch to insert itself into monitoring the executive branch's decision-making. There is potential here for a GAO report that will evoke scores of Ph.D. dissertations in multiple disciplines -- maybe even a political thriller or two. Who made fortunes on stocks and stock options? Who had inside knowledge? What methodologies have been created to score, as revenue neutral, the promise of providing low cost capital to lenders, with no assurance that taxpayers will ever see any return of assets or reductions in subsidies? (If that can be done, maybe the lenders who negotiated this just ought to be rewarded in terms of fortunes.)

This doesn't sound much like the road to student loan reform; more like a restoration of the old regime.

The centerpiece of the author's analysis -- the calculation of a "129 basis point spread" for lenders under the Department's tentative terms -- is based on a basic error of fact. Lenders will be receiving the IN-SCHOOL rate on these loans during the time period in question. That rate is CP + 1.19 (NOT CP + 1.79 as alleged). CP + 1.19 is the post-CCRA rate received by for-profit lenders. That immediately reduces the alleged "spread" to 69 bps, and that is before other expenses not contemplated by the author are factored in to the equation.

It is strange that statements about FFEL being a private sector animal go unchallenged. FFEL is chock-full of 1960s-era state government agencies -- lenders as well as guarantee agencies. And, while the state lenders & state secondary markets no longer have the majority of the FFEL holdings or loan volume, they clearly have the juice in Washington to drive policy, as we saw with the much higher special allowance rates they obtained in the CCRAA legislation (not to mention the guarantee that each state have at least two "winners" in the parent loan auction planned for next year).

Why are FFEL supporters so afraid of capitalism and competition? While the auction model in CCRAA was (again, at the behest of the state agencies) not an ideal one, you would think that anyone who was pro-capitalist would be chomping at the bit to introduce at least a tiny bit of free-market into FFEL. No? Why not? Change is tough?

At least direct lending has private contractors. The contracts are awarded competitively. A tiny group of "government employees" administer the contracts. If private contractors are socialist, then where’s the clamoring from ideologues to shut down the defense dept.? And there are more federal bureaucrats working to administer the much larger FFEL program than DL. Not to mention the guarantee agencies and secondary markets which are state bureaucracies. One of the strongest, self-styled FFEL advocates is the Bank of N. Dakota, the nation's only socialist bank.