23 Nov 2015

What do university fees represent?

Feri writes*

In this blog, I will explain the possibility of an impending student debt crisis in the United States and its similarities to the 2008 mortgage crisis. Furthermore, I believe that plans to ease student debt and make universities tuition free that have been adopted by democratic candidates for president Hillary Clinton and Bernie Sanders could be very harmful.

The general idea is to make the top 1% wealthiest Americans pay for everybody else's education. This plan is badly researched as the math doesn’t simply does not add up. This is largely due to the common misconception that there is this source of taxable money that is being hoarded by the wealthiest of Americans and that once it is taxed it would create a stream of new income for the government. This notion has been disproved by the Laffer Curve.

Tackling the $1.2 trillion student debt crisis and the 7 million debtors in default in the US is essential. The idea to forgive the debt and to provide low-interest government-insured loans is only going to benefit private universities. This easy money will cause a wave of big borrowing and a resulting inflation of tuitions that will quickly swallow up the money these government programs would require. I believe the student debt bubble that has already been formed could burst if either of these popular plans are implemented.

In the 2008 housing bubble, we saw similar policies which proved to be very harmful. The government provided easy money leading up to the bubble: people who otherwise wouldn’t have been eligible for a mortgage were given the cheap debt they desired. Soon, housing prices rose due to an increase in demand. The bubble burst when it became clear people were not able to repay their debt and many defaulted and the debt became worthless. Exactly this could repeat itself with the student crisis.

What the "New College Compact," idea assumes is that by making it easy to go to university and burden students with a lower cost they will eventually get a high paying job and it will be easy for them to pay the loans back. What is not taken into account is that this will also lead to oversaturation of college graduates and the government has exhausted businesses with new taxes and regulations, as a result companies stops creating more high paying jobs. Meaning those graduates will get low paying jobs and won’t be able to pay back, leaving us with $1.2 trillion written off,  $350 million spent on this new plan plus the new loans that will not be paid. What is the possible outcome of this?

Boom. The bubble bursts.

We can still prevent this problem of the tuition bubble growing and bursting with, for example, a $15,000 voucher plan that will create competition between universities, which would not be able to  raise the price of education because the voucher would be valid in any state. This way universities will not waste money but will try to increase the quality of education. Students would graduate with little or no debt. This will allow for university graduates to have a purchasing power much sooner than before and help the economy grow (the money, for example, you need to move from home or create startups).

Competition will also get rid of only for-profit universities who have very low standards. This will also make great community colleges much more desired and appreciated. This idea is supported by numerous people such as economist Milton Friedman and Mark Cuban.

Bottom Line: Making tuition easy to afford, community colleges free and forgive past student loans may sound great and beneficial for students their parents and eventually the economy, but in reality, it will be much more beneficial for universities that will raise tuition while producing more graduates chasing lower paying jobs with more debt. Instead of making it easier to spend money on something and reduce completion, create more competition to improve quality at lower prices.

* Please comment on these posts from my microeconomics students, to help them with unclear analysis, other perspectives, data sources, etc.


Cox Bogaards said...

Interesting blog post :D, but I have some questions and comments.

First, you argue that the Laffer curve applies to wealth in the US. The Laffer curve is an inverted U-shaped curve. Wealth, not income, in the US is barely taxed. Therefore, I would argue that the US is still on the left side of the maximum some scholars would agree with me while others would disagree. This is a very much contended subject, the way in which you address it seems like you have not taken this into account.

Second, you argue that forgiving debt and providing low-interest government-insured loans will only benefit the private universities. I do not understand why public universities would not benefit from these reforms. I would suppose that their students would also have the right to these provisions.

Also, the defaulting on mortgage loans was caused by a sudden drop in the value of houses after a rising trend.

The paragraph about the ‘New College Compact’ is not consistent with your previous argument. Here you assume that more people graduate. This would not happen if the price of going to college increases.

You propose introducing a $15 000 voucher. How would this be different then loans? According to your previous argument tuition fees would rise to negate this sum of money and would therefore not have any positive effects.

I would propose to introduce a lobby which attempts to convince colleges to lower their tuition fees. There already have been some instances of this in the US. This would benefit everyone. In my eyes a wealth tax, would be beneficial to address other policies, however, that is outside the scope of your blog post.

Ferdinand said...

Interesting discussion for sure! However I do find some of your arguments slightly problematic.

Firstly the issue of the Laffer curve. Originally applied to income though I you could apply it to wealth as well, still there are several things you would have to clear up. One issue being where the U.S. currently are, which I would argue is to the left (credits to Cox) and a second issue being where a lot of that excess financial capital ends up in the long run. Essentially, in my opinion, you are making stronger claims than your evidence can support.

Furthermore, you make it seem as though this form of "subsidy" would not help out the students at all. Well with access to more capital it makes sense to me that more people would afford college so Q would in fact increase. That being said I do agree that there is a problem that universities may benefit rather unfairly with this form of policy as well, yet I am not completely sure if that would not be the case with vouchers as well.

Would potentially be interesting to discuss regulations that could accompany some of the policies suggested here, but we can leave that for another time.

This is a truly interesting debate and one that deserves a little bit more than just a comment under a blog post! :)

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