Student Loans and Its Impact on the Economy - Essay Example

LOANS AND ITS IMPACT ON THE ECONOMY Introduction Education is a vital element of the knowledge-based economy, where wages and working benefits are highly correlated with the level of knowledge and specific skills of the employee. Future career perspectives often become the major motivation of an individual’s choice to go to college and to take a student loan for education if it is necessary. Having thought about the benefits of this decision, indebted students also should think about the costs their decisions incur. These costs include not only monetary costs, but also time devoted to education and other opportunities lost in result of the decision made. The aim of this research is to provide a critical overview of the student loans and analyze the consequences of it. Human Capital Model Postsecondary education is an important aspect contributing to the economic prosperity of any country (Hillman 2014). This view is supported by the economic theories based on which, the high school graduates tend to earn less money in future than college and university graduates. Desire to build great career and ambitions to sell own skills and knowledge at higher wages in future generate demand for higher education among future professionals. In addition to increased demand for a college degree, demand for graduate professionals has also been growing. This tendency is viewed as positive and favorable as demand for greater number of qualified professionals implies lower unemployment rates (Hillman 2014). In addition to increased supply of college educated employees to the labor market, student loans can reduce income inequality in low-income families and therefore have positive economic effect in long-term perspective (Avery and Turner 2012). These are some of the major benefits of student loan programs on the macroeconomic level. The opportunity cost of graduating college or going to work after high-school also is an important aspect in the economic theory (Avery and Turner 2012). On the one hand, an individual has an opportunity to go to work and earn money; on the other hand, an individual has an opportunity to earn higher wages in the future upon college graduation. In economic theory, such an investment into education is explained through the human capital model (Belasco, Trivette, & Weber 2014). Based on this model, “human capital consist of knowledge and skills often acquired through formal education and deemed necessary in today’s knowledge-based economy” (Wright, Walter & Zarifa, 2013 93). Thus, and individual is evaluating costs and benefits of his/her decisions (Wright, Walter & Zarifa, 2013 93). However, despite the discussed above economic, social, and individual benefits of the student loans, there are some negative consequences related to this type of borrowing. Student-Loan Defaults Nowadays, the loans for education in college became so popular, that two-thirds of students borrow loans for this purpose. Taking into consideration, that today’s average cost of college education loan per one student is approximately $26, 000, the overall sum of student’s loans is significant (Hillman 2014, 170). Huge supply of student loans has transformed higher education from a price-elastic commodity to a price-inelastic commodity (Austin 2013). Student loan-based aid system has resulted in some negative tendencies that continue to progress: more students accumulate greater debt levels and more students fail to repay their debts (Hillman 2014). Default occurs when students fail to repay their federal debt for 270 consecutive calendar days after leaving college (Hillman 2014). According to the U.S. Department of Education, the number of student-loan defaults has increased by more than 40% during the period from 1998 to 2010 (cited by Hillman 2014). Below is provided the figure with data on the number of students entered into default since 1998. Figure 1. Number of students entered into student-loan default within two years of repayment, by cohort year (Hillman 2014, 173). An estimate of current total federal and private student loan debt outstanding exceeds $1, 2 trillion as of July 2014 (Finaid.org, 2014). It is not surprising that student loans are considered to be the second largest source of consumer indebtedness after housing loans (Ending Student Loan Exceptionalism: The Case for Risk-based pricing and dischargeability 2012, 587). Student-loan default has some obvious negative economic, societal and individual consequences, as it incurs costs to colleges and universities, taxpayers, and borrowers (Hillman 2014). In case of default, borrowers face the risks of diminished credit score, garnished wages, litigation, or seized tax refunds (Hillman 2014). While the level of education is an important factor contributing to the overall economics of the country, the inability of students to repay their education loans combined with the rising share of indebted students makes the idea of student loans efficacy very doubtful. In addition to the debt factor and its impact on the borrowers, tax payers and the overall economics of the country, there are some other aspects that have overall negative impact. Thus, for example, some studies indicate that high debt burdens make lower-paying careers (for example, teachers) less attractive to students and that college graduates tend to postpone their marriage (Avery and Turner 2012). Moreover, the problem is exacerbated with the fact that growth rate of salaries is far slower than the growth rate of college tuition, 3% and 8% per year, respectively (Franklin 2013). Thus, student loans undermine the idea that the standards of living in the future and loan repayments will cover the costs incurred during college education (Franklin 2013). Economic alternatives to student loans In order to avoid the problems of rising student indebtedness and growing number of student-loan defaults, the government should reduce the amount of the loans for education. For this purpose there could be developed and introduced risk-based pricing framework (Ending Student Loan Exceptionalism: The Case for Risk-based pricing and dischargeability 2012). Sabhlok (2012) explains that government as a key lender of federal loans should design and introduce a fact-based determination procedure whereas is assessed the student’s creditworthiness. By evaluating a student’s likelihood to graduate, to find a job upon graduation, and expected income for gained profession, the government will be capable to stop growing higher education bubble (Sabhlok 2012). However, this solution is not a direct alternative to student loans; rather it is a way of mitigating the risk of student loan defaults. Referring back to the idea of student loans it is necessary to remember that this is perceived as one of the instruments for reducing income inequality in the society and lowering unemployment rate. However, with the globalization, technology advancement and migration of the workforce, higher education might not be a good option. Developing further this idea it is possible to suggest that workers outside the developed countries such as the United States are well educated enough and are happy to work for much lower wages (Mtnmath.com). In this case, global workforce migration and opportunities of work remotely makes student loans for many specializations economically inevitable, as by the time a student will graduate a college he will have to compete with foreign workforce and there is no guarantee that the wages earned will be sufficient enough to repay the loan. Thus, it is possible to suggest that rather than seeking for student loans alternatives, the government should strengthen the social safety net by offering free education for at least four year of college (Mtnmath.com). While free education for everyone might be financially burdensome to the country’s budget, it can be introduced partially for the students selecting professions that have high demand in the society (social worker, teachers, etc.). Conclusion Education is a vital element of the knowledge-based economy, which has some obvious macroeconomic outcomes, such as: reduced unemployment rates (not taking into consideration recession periods), social welfare, reduced income inequality, etc. Student loan is a popular instrument used to ensure that everybody who has a desire to gain a postsecondary degree can have an opportunity to borrow the required sum. The popularity of student loans for college education has become so popular, that two-thirds of students borrow loans for this purpose. However, this has also resulted in the student-loan defaults, as increasing number of students fail to repay their debts. Student-loan default has some obvious negative economic, societal and individual consequences, as it incurs costs to colleges and universities, taxpayers, and borrowers. In order to minimize the risk of student-loan defaults the government should reduce the amount of the loans for education by introducing risk-based pricing framework. However, taking into consideration the globalization and global workforce migration, the whole issue of student loan benefits is questionable. Students who have taken loans for their education are facing a risk of failure to repay their debt and to find a job with high wages in result of fierce competition on behalf of specialists who are ready to work for lower wages. Workforce market might lower wages in results of increased workforce competition. Therefore, the only sound alternative to student loans is offering free education. The costs incurred through this solution will lie on the taxpayers’ shoulders. However, increased student-loan default rate is also a significant burden to the whole society. References: Austin, D. (2013). Not So Fast, Senator! How to Really Solve The Student-Loan Debt Crisis. The Huffington Post. Retrieved 29 July 2014, from http://www.huffingtonpost.com/daniel-a-austin/not-so-fast-senator-how-t_b_4071381.html Avery C, Turner S. (2012). Student Loans: Do College Students Borrow Too Much-Or Not Enough? Journal Of Economic Perspectives [serial online], 26(1):165-192. Available from: Business Source Elite, Ipswich, MA. Accessed July 28, 2014. Belasco, A., Trivette, & Weber. (2014). The Review Of Higher Education Volume: 37 Issue: 4 (2014-06-01) p. 469-498. ISSN: 0162-5748 Ending Student Loan Exceptionalism: The Case for Risk-based pricing and dischargeability (2012). Harvard Law Review, 126(2), 587-610. Finaid.org,. (2014). FinAid | Loans | Student Loan Debt Clock. Retrieved 28 July 2014, from http://www.finaid.org/loans/studentloandebtclock.phtml Franklin, M. (2013). Student Loans. CPA Journal, 83(7), 11. Hillman, Nicholas (2014), College on Credit: A Multilevel Analysis of Student Loan Default. The Review Of Higher Education. Volume: 37 Issue: 2, p. 169-195. ISSN: 1090-7009 Mtnmath.com. (n.d.). Long term solutions to disruptive income inequality. Retrieved 29 July 2014, from http://www.mtnmath.com/banana/solutions.html Sabhlok, R. (2012). Student Loan Crisis Solved -- Next Problem?. Forbes. Retrieved 29 July 2014, from http://www.forbes.com/sites/rajsabhlok/2012/12/14/student-loan-crisis-solved-next-problem/ Wright, L., Walters, D., & Zarifa, D. (2013). Government Student Loan Default: Differences between Graduates of the Liberal Arts and Applied Fields in Canadian Colleges and Universities. Canadian Review Of Sociology, 50(1), 89-115. doi:10.1111/cars.12004 Read More