Should Student Loans Go to Market?

One way or another, just about every word out of the mouth of a lender (or of a critic of the student loan programs) these days is aimed, at least indirectly, at the occupants of the Capitol. With Congress contemplating potentially transformative changes in the financing and the structure of the guaranteed student loan programs, advocates for student loan providers, for colleges, and for student borrowers are doing everything they can to have their points of view heard.

On Wednesday, Rep. Thomas E. Petri made it easy for them, as his Higher Education Finance Working Group gave two student-loan officials and one persistent critic of the lending industry a chance to make their cases in front of several dozen Congressional aides. The spirited and at times contentious discussion covered a wide range of topics -- how deeply Congress should (or should not) cut into lender profits, the special role of state and nonprofit lenders, whether college financial aid offices deceive when they include private loans in their offer letters to students -- but much of the talk revolved around the wisdom, or foolishness, of proposals to inject market-based mechanisms into the student loan programs, which are a hot topic on Capitol Hill.

Petri, the sponsor of the discussion, favors such an approach, and he has pushed to include in House of Representatives budget reconciliation legislation language that would direct the secretaries of education and treasury to study the most effective ways in which student loan providers might be required to compete at auction for the right to provide student loans, and then to carry out a pilot program of the chosen approach or approaches using up to 20 percent of student loan volume.

One of Wednesday's panelists, Barmak Nassirian, associate executive director of the American Association of Collegiate Registrars and Admissions Officers, agreed with Petri that it makes sense to let market forces influence the rates and terms of the student loan market, as opposed to the current approach, where Congress sets the conditions.

Letting members of Congress dictate the terms of the student loan market is "anti-capitalist" and "anti-competitive," Nassirian said. And it means that lobbying matters more than price or service, he said, which he called a "prescription for corruption, or at least cooptation." He added: "Nobody knows what the real price is. The way to learn is to let the markets decide."

The two student loan officials at Wednesday's briefing disagreed with Petri and Nassirian on the wisdom of the auction approach, though they took particular exception to the version of it put forward in legislation passed this month by the Senate Committee on Health, Education, Labor and Pensions, which would immediately institute a pilot program in the federal government's loan program for parents that would choose the participating lenders, on a state-by-state basis, exclusively on the basis of how little they would charge the federal government for the right to do so.

John Dean, special counsel to the Consumer Bankers Association, called the Senate approach a "terrible way to go" that would "operate to the benefit of government and to the extreme detriment of borrowers." To offer the lowest bid, Dean said, lenders would inevitably "cut back the borrower benefits" to see "how little can we get away with. I don't think that that's student friendly."

Dean also noted that the last time Congress renewed the Higher Education Act, in 1998, it also mandated a study of letting market-based forces set student loan rates. The results were not positive, with college financial aid officials especially skeptical, disliking the prospect that the companies lending to their students could change every year or few.

Scott A. Giles, vice president of policy, research, and planning at the Vermont Student Assistance Corporation, a public nonprofit lending and student aid agency in that state, said he "did not disagree [with Nassirian and Petri] that we need to find a better way to set special allowance payments," which are the subsidies the government pays lenders for each loan they originate. But he agreed with Dean that having an auction based purely on who can reduce those payments the most -- which ignoring other major costs of the loan programs, such as the in-school subsidies for students and the payments for defaults -- would "not do anything for the consumer."

Giles also expressed concern that auction proposals would strengthen the hand of big lenders and hurt small and nonprofit lenders like his, "accelerating rather than decelerating" the consolidation that has already occurred in the number of players in the student loan industry. He noted that his agency is the 33rd biggest provider of student loans in the country, but that it originates barely 1 percent of all loans, with 10-15 lenders managing a significant majority.

Giles, a former Congressional staff member, also noted that the federal government's one other experiment with market-based mechanisms in the student loan realm, the failed Health Education Assistance Loan Program, was a major flop.

"It sucked," Nassirian concurred. But that fact, and the fact that the Senate proposal may be flawed, he said, "should not be short-hand to say that all market-based mechanisms are suspect."