Federal student loan debt has exploded since the Great Recession. As students are borrowing more to finance their education, they are also struggling to repay their loans with nearly one in every five borrowers in default prior to the COVID-19 pandemic’s payment freeze. In addition to financially straining many borrowers, the growing federal student loan portfolio places a burden on the federal budget and poses a risk to taxpayers. BPC’s recent report, Student Debt and the Federal Budget: How Student Loans Impact the U.S. Fiscal Outlook, explores the origins and budgetary impact of rising debt levels and offers policy options to rein in this growth while promoting better borrower outcomes.
Prior to 2010, federal student loans were issued by private lenders and guaranteed by the federal government. During the Great Recession, however, a spike in higher education enrollment and applications for federal student aid coincided with fears that dried up credit markets would inhibit access to federal student loans. In response, policymakers enacted legislation to originate all new loans through the federal government using federal funds. Although the switch to direct lending was expected to produce savings, it is unclear if these benefits materialized; regardless, the government and taxpayers now bear the full burden when borrowers cannot repay their student loans.
Meanwhile, between 2007 and 2015, federal student loan debt more than doubled in real terms, growing much faster than the economy. Since this initial accumulation, the student loan portfolio has continued to grow—reaching $1.6 trillion in 2021—though at a slower rate due to the declining annual volume of loans issued. As total debt levels continue to rise, the task of curbing this growth is complicated by lackluster repayment outcomes and high default rates.
Repayment rates have fallen in recent years: A growing share of federal borrowers are unable to reduce their principal loan balance by at least one dollar within three years of graduating. This trend, while concerning, may be partially explained by increased borrower enrollment in income-driven repayment (IDR) plans. IDR plans allow borrowers to limit monthly payment amounts to a share of their discretionary income, and, after a certain number of payments (usually 20 or 25 years’ worth), any outstanding loan balance is forgiven. These plans help ensure affordable monthly payments for borrowers who enroll: Among borrowers who entered repayment between fiscal years 2010 and 2014, those enrolled in an IDR plan were 28 times less likely to default than those on a standard repayment plan.
Still, prior to the pandemic, an increasing proportion of borrowers were in default. The ongoing growth of outstanding student loan debt is troubling, not only for vulnerable borrowers, but also for taxpayers who could be left to foot the growing bill if policymakers fail to address these trends.
Over the past 15 years, college has become more expensive for students, with the average real cost of tuition, fees, room, and board minus grant aid (net TFRB) at public four-year colleges and universities increasing by 18% since the 2006-07 academic year. The cost of a public education has risen following a trend of states cutting funding for higher education during recessions. To compensate for losses in state funding, schools raise tuition prices, in turn leading students to borrow more to finance their education. These state funding cuts, along with uncapped Grad and Parent PLUS lending and evidence that easy access to federal student loan funds has diminished consumer sensitivity to tuition increases, create the potential for a vicious cycle of rising tuition and higher debt loads for students.
As students take on higher debt loads, less is being paid back. Loan forgiveness programs like Public Service Loan Forgiveness (PSLF) and the capping of monthly payments under some IDR plans make the student loan portfolio particularly costly to taxpayers. The problem is further complicated by a lack of accountability for postsecondary institutions. The current higher education oversight system fails to identify institutions and programs that leave students with massive debt without providing sufficient earnings gains or a return on their investment to repay it.
Together, growing out-of-pocket costs, unrestrained PLUS Loan borrowing, generous repayment and forgiveness programs, and a lack of institutional accountability continue to drive up the cost of student debt for the federal government.
To address these problems, policymakers should explore options that mitigate taxpayers’ risk exposure to student debt, provide relief to struggling borrowers, and reduce reliance on the federal student loan system. This could include holding institutions accountable for their students’ outcomes through risk-sharing and incentivizing institutions to provide students with a robust return on investment. It could also include restructuring programs like PSLF and IDR to improve repayment outcomes and reduce their budgetary impact. Ultimately, policy solutions to the student debt challenge should improve borrower outcomes while taking the necessary steps to address their impact on the federal budget.
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