Advocates of federal direct loans are worried that privatization could mean the end of student loans as a broad entitlement.
The student loan business got a lot tougher during President Barack Obama's time in the White House. The victory of Donald Trump and congressional Republicans promises to turn that around dramatically.
In 2010, Mr. Obama and a Democratic-controlled Congress ended a program wherein banks and private lenders made government-backed student loans. The banks earned fees and interest payments while the feds bore the cost of defaults. Under a new law, the government alone would make those loans directly.
Next, in 2013, the government cut interest rates on new federal student loans to levels often half of those offered by banks on private loans. Throughout his administration, Mr. Obama continually made loan repayment plans more generous to student debtors, further undercutting the case for borrowing from lenders such as SLM Corp., better known as Sallie Mae. Michael Tarkan, director of research at Washington-based Compass Point Research & Trading, says that's made student loan companies' stock unattractive for some investors he talks to. “When I first bring up Sallie Mae, they throw their hands up and say, 'I can't touch that. It's student debt,' ” he says.
Things were probably going to get worse for the industry had Hillary Clinton won the election. She advocated free tuition at public colleges, which, though tough to get through Congress, likely would've reduced demand for new loans. A Clinton victory would also have emboldened the Consumer Financial Protection Bureau, which has been documenting complaints of misbehavior and shoddy customer service by companies that service student debt. Last year, the CFPB told Navient Corp., the nation's biggest loan servicer, that it had amassed enough evidence to indicate the company violated consumer protection laws, and was considering suing the company. (Navient maintains it has done nothing wrong.)
The Republican Party's platform calls for abolishing the CFPB. Even if that doesn't happen, Mr. Trump, who's promised to dismantle much financial regulation, will be able to name a new director of the agency in 2018, and a recent court decision may allow him to act even sooner. “No one thought the regulatory climate would change as a result of this election,” says Mahmood Reza, a portfolio manager at Omega Advisors, which owns shares of Navient. Now the market is betting it has: Shares of both Navient and Sallie Mae shot to 52-week highs after the surprise result. Nelnet, another student loan company, hit its highest price.
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An even bigger win for the industry would be the chance to take back a big chunk of the student lending business — and to get the government to do less of it. “That really is the 'hope' part of the trade,” says Mr. Tarkan. During the academic year that ended on June 30, the federal government disbursed $87.9 billion in student loans, U.S. Department of Education data show. Private lenders originated less than a tenth of that, according to MeasureOne, a student-loan data provider.
Democrats won't allow Republicans to eliminate direct loans without a fight, however; and killing direct loans would also worsen the budget. The Congressional Budget Office estimates the student-loan program will produce $37 billion in profit from borrowers' interest payments over the next decade. “That's probably one of the only things the government shouldn't make money off,” Mr. Trump told the Hill newspaper last year. “I think it's terrible that one of the only profit centers we have is student loans.”
But that profit could instantly be turned into a cost with nothing more than a change — one that's been long been advocated by both Republicans and the student-loan industry — in the government's accounting assumptions. The cost of the program doesn't factor in the risk that loans on the government's books could be worth less should the economy falter and borrowers fall behind on payments. Proponents of this approach say the government needn't worry about such risks the way a private lender would. But Republicans, lenders and the Congressional Budget Office argue that such accounting masks the true cost of the student-loan program.
Using an alternative method the industry has lobbied for, the student-loan program would show a loss of $170 billion over the next decade. Jason Delisle, a resident fellow who focuses on higher education finance at the conservative American Enterprise Institute, says it's likely Congress and the Trump administration will approve the accounting shift.
If that happens, privatizing parts of student lending will become easier to argue for. The first changes could come in loans to graduate students and parents, which represent nearly half of all federal student loans disbursed during the most recent academic year. The argument, says Mr. Delisle, is that the government doesn't need to lend to adults with established credit histories. He says the prospect of paying a higher rate on a loan might also make students more discerning about the programs they go into.
Advocates of federal direct loans are already worried that privatization could mean the end of student loans as a broad entitlement. With rare exceptions, almost everyone who attends an accredited college qualifies for one and pays the same fees and interest rates, regardless of the quality of the school or the student's course of study. “It's an entitlement program for a reason,” says Sara Goldrick-Rab, a professor of higher education policy at Temple University. “To give students a choice.”
