Scrapping the Current Federal Student Aid System: Beware the Law of Unintended Consequences

In a very recent report, the New America Foundation issued a proposal suggesting that the current federal student loan program is so broken that it needs to be totally scrapped and replaced with an alternative system.  https://bit.ly/1PIgQwJ.  The premise is right: federal student aid, as presently written and effectuated, is deeply flawed. 

Already there is commentary -- no shock there. https://www.usnews.com/news/articles/2016-02-18/reimagining-the-federal-student-loan-system.  

The Proposal

The New America approach is, in a nutshell, to eliminate the federal loan program as we know it and move the power to the states to distribute both federal and state monies to colleges and universities in their state (regardless of the residency of the students).  (Wee issue there for states with many institutions or many students who enroll in institutions in that given state.)

Students would be required to pay only their estimated family share (the calculation of which would be changed). States could opt-out of the system but they would be incentivized to participate. Colleges and universities could opt out too apparently. Institutions of higher education opting in would need to meet a set of thresholds to be eligible to receive the state/federal dollars such as % of enrolled Pell students; academic success as evidenced by graduation rates (although there is an openness to different measures of quality). Finally, there would need to be some private lending, and the terms would be circumscribed to prevent untoward provisions for borrows. Finally, these private loans would be dischargeable in bankruptcy.

Regardless of your political persuasion, we can agree that the current financial aid system needs an overhaul, although how it can be fixed is not a subject on which there is universal agreement. That said, mere tweaks are unlikely to repair all that is broken.  I get the notion of not just rearranging the deck chairs on the Titanic; that's obviously a useless effort.  And, look at the new efforts of the Department of Education to improve the system -- finally. They are a start -- perhaps more like bandaids instead of deep systemic improvement.

Consequences: Unintended and Intended but Unexpressed

But, I have always thought about the Law of Unintended Consequences. Even the best ideas have consequences that may not have been foreseen or recognized. Indeed, sometimes these consequences produce results that are even more perverse (if that is possible) than the existing defects.  Yes, really.  https://www.quora.com/What-are-the-best-examples-of-the-law-of-unintended-consequences-in-action.

The Law of Unintended Consequences can also be accompanied by another law -- the law of intended but unexpressed consequences that affect targeted groups.  These are worth watching out for too as they can be destabilizing, depending of course on one's perspective.  Call these the Law of Unexpressed Consequences.

Clearly, a deep dive into the New America proposal is in order but here are three immediate unintended consequences that I see that are, in my judgment, worthy of attention and further discussion up front.  One can decide they do not matter or should not matter but at least the consequences need to be acknowledged up front.  Many of my concerns stem from asking this question: whose ox is gored by the New America proposal?

Three Concerns (among many):

(1)  For many people, the EFS, howsoever calculated, will result in borrowing from the private sector and clearly, new market entrants will see new avenues to pursue and new lending products.  How sure are we that we can effectively police these lenders (they could be Internet lenders too)?  It is not as if we have done such a good job now and information asymmetries abound. Whatever the flaws of the current government lending, there are back-end benefits which many private lenders do not provide, and their absence could mean negative borrower consequences down the road.

(2) The small, non-elite, non-profit colleges will be the most affected by the New America proposal as I see it because it is unclear to me how they will get sufficient revenue to support the enterprise.  These are often the institutions that serve high numbers of Pell students and so their graduation rates are lower because of the very nature of their student populations.  So, here's the potential unintended consequence: small to medium sized HBCUs and other small colleges that serve many first gen low income students will be negatively impacted.  While that may be an unintended consequence, perhaps there is a hint of intention there too -- as a means of narrowing the options in our educational landscape.  The theory is some institutions have outlived their usefulness or are unsustainable, like buggy whip makers.

(3) I worry that we would be developing a markedly tiered system of higher education.  The "elites" would opt out of the proposed program because they could afford too. The participating institutions would be the go-to places for most low income and medium income students that are not accepted into the "elites."  So, we'd have schools with privilege and those without.  In some senses we have that now. But, it plays out differently because students at elite institutions can still borrow from the federal government.  I think the idea of a privileged class is bothersome, and elite institutions would not need a minimum of the equivalent of Pell eligible students.  We need the opposite and one way to achieve that, as I write in another piece, is through the treatment of endowments in excess of $1 billion. But that is a different story for a different day. Bottom line: many elite institutions could have very few low income students. That's a seriously bad outcome on many levels. 

Another Possible Approach 

If the goal is improvement and simplification and cost effectiveness all at once, why don't we consider changing how the federal government lends and put all students in a repayment program unless they opt out. Think about the many repayment programs now in existence.  Scrap them and create one that has the best features for the greatest number of students.  And, prevent the taxation of the unpaid balance way down the road.  Why don't we lower the interest rate on student loans to 1% above what the Federal Government obtains for use of money?  And we need to permit refinancing and curb closing costs (or virtually eliminate them). Defaults could be curbed with campus based initiatives (and participation in these repayments programs is currently denied if you in default).  Payments could come out of the graduates' pay checks -- and if a graduate were not working, there would be no sum withdrawn.  England seems to have this right. Would this discourage working?  I think not -- given that only a portion of one's income is withdrawn, it would be quite the give up to get no income.  Eliminate the bankruptcy non-dischargeablility provisions for all student debt after a set period of time... five years? ten years?.  Oh: one more thing to eliminate in addition to the above suggestions: parental borrowing through the federal government.  Last I checked, the government was not a bank.

Just saying...

New America's scrapping of the current system may just be throwing the baby out with the bathwater. And, I for one, worry about the capacity of states to manage these programs. I am not suggesting that FSA has done such a quality job.  But, the states?  From whence does our confidence in states derive?  

At least, on the good news side, a conversation is taking a new turn: rethinking rather than tinkering. That's positive.