By Richard Vedder
I was talking with one of America's finest business reporters the other day, Chris Farrell of Business Week and NPR. Chris was asking for my take on the student loan market, picking up on Andy Gillen's series of blogs on the possibility of a student loan "bubble."
A look at the evidence shows that top companies in this field may be sicker than the top companies burned by the subprime/private equity problems. Consider the following:
The price of common stock fell from July 3 to January 4 for the following companies:
J.P Morgan & Co. 16%
Bank of America 17%
Merrill Lynch 37%
Bear Stearns 47%
Big declines --especially for companies like Citicorp and Bear Stearns. But what about Sallie Mae, by far the largest student loan participant? The price of SLM stock fell OVER 71 PERCENT in the same period, from $57.92 to $16.67 a share. A far more dramatic decline --well over two-thirds the company's capitalization.
What is the problem with student loans? There are both supply and demand factors at work.
First, the risk premium associated with student loans is apparently significantly greater than assumed by the lenders and investors in those companies. Evidence that defaults are far higher than the Department of Education lets on furthers the concern.
Second, the Democrats controlling Congress had a bad idea --lower interest rates on loans and finance the subsidization in part by cutting fees payable to private lenders. The "squeeze the lender" philosophy (similar to "squeeze the physician" with Medicare and Medicaid) can only have negative supply consequences.
Third, public awareness of the consequences of excessive borrowing are rising, as newspapers, TV, and the internet are filled with horror stories of students with huge debts.
Fourth, the student loans scandals unearthed by Andrew Cuomo and others have made some colleges leery of getting involved with student loan companies. Some heads have rolled, and we have perhaps not heard the end of this matter.
Fifth, maybe in part because of the previous point, some prestigious schools are ending loans as part of student financial aid packages --when Princeton and Harvard do that, others follow --and they are. Joe Six Pack U. cannot afford to do it, but more and more private schools are taking the plunge, using endowment monies more aggressively to support tuition discounting.
Sixth, the demand for higher education has risen sharply over time because of the rising college-high school earnings differential. Yet the evidence is, at least for women (who make up 57 percent of all students), that that differential has ceased widening over the past decade. As the cost of education rises, but the financial benefits remain roughly constant, the advantages of borrowing for college decline.
Hence, there already is a slowdown in loan growth --will it turn into an absolute decline? Stayed tuned.