Charging Excessive Interests on Student Loans: Is This The Only Best Public Policy Option?

To understand deeply the US student loans issue, one needs to comeback to NDEA–to understand reasons why did Uncle Sam start the student loans program.  Over the time, the soul of NDEA has changed to what the American public is seeing currently.

Three critical questions may be asked by a US citizen in that (1). why they, the taxpayers, need to pay interest on the money that comes from their tax i.e., the federal income tax that they have paid? for (2) and (3), please see below.

When Johnny went to college, his parents, which are great citizens have to take Parent-Plus Loans.  They always pay their federal income tax on-time, never late, and always paid-in-full.  After their son graduated from his postsecondary education, they have to pay the taken additional loans to support their son through the college education.  Critically analyzing their loans situation, the parents, as ordinary US citizens ask three important questions as mentioned above and repeated here:

  1. Why they should pay to borrow their own tax money?
  2. Why in addition to 4.25% fees, the 7.6% Fed Loan interest rate for Parent Plus is higher than that of the commercial bank (about 50% lower) ?
  3. Why monthly payment is paid first toward the interest charges, and the remaining applied to the principal?

Well, some will argue that money (seen as capital, here), like any other resources are limited in supply, so that there is a price and “time value of money” for it.  This is basically the rationale of Classical Economics theorists’ hypothesis.  Even though there are many other monetarists, such as I. Fisher’s thesis on interests rate developed later, the main idea is that interest is the price for money.  The whole idea is about opportunity cost.  Investing the same amount of money, investors may generate at least or higher rate of return.  However, there is a fundamental difference on the assumption behind either the Classical or Keynesian theory of interest in that its application is more appropriate toward for-profit private sectors or businesses and both theories do not differentiate investments in public sectors, such as a nation’s human capital investment.  The investor’s objective function between the private sector and the government’s is not symmetrical, where it’s objective has been clearly defined in the NDEA.

If, the proposition of opportunity forgone hypothesis is true for both private and public institutions, then one may need to ask further “what kind of investment opportunities” that the lawmakers are referring to that yield 8% annual return?  When the commercial financial institutions are able to offer about a half of 8%, that truly reflects the expected normal return from their commercial borrowers.  In this case, the law is passed with an explicit assumption that investment in college education will generate higher ROI than that of in other non-academic industries.  Are there any other data and research which can back this maintained hypothesis up?  Please read horror stories that the student loans have caused on some borrowers.

May be the best Wall Street investment companies are able to make that happens.  But investment in a nation’s human capital is not exactly the same with that of in Wall Street’s.  The objective function will not ever be the same.  Read again the NDEA for clarity.

When the student loans default is creeping higher daily and more private sector/companies are participating to ease their employees’ student loan burden, that are the real proofs that a human capital investment will not bring 8% rate of return, universally.  The US lawmakers have to think over on this issue.  Y’ll may be able to do something better for Uncle Sam, and its citizens are looking forward to seeing it happens, especially before and during the election time.

Information taken from Q & A USDOE website as of September 14, 2018.

What is the current interest rate?

For Direct PLUS Loans first disbursed on or after July 1, 2018, and before July 1, 2019, the interest rate is 7.6%.  These are fixed interest rates for the life of the loan.