Analogies Between the Increase in Student Loan Debt and the Housing Bubble

Student Loan debt in the U.S. grows $3,055 every second and has reached $1.27 trillion in total. According to a report by Market Watch, the class of 2015 has the largest amount of student debt ever and an average debt of $35,000 per person. The higher education market was being compared to the housing market by many experts. A study by the Federal Reserve bank of New york shows how, and finds that the market for postsecondary education shares several features with the housing market, despite the fact that student loans fund a capital investment while mortgages fund an asset.

The study was conducted to find out the effect of the student loan credit expansion on the cost of postsecondary education. As a comparative analysis, the report used the case of the housing bubble which resulted in a financial crisis. The major similarities Between the housing market and the higher education market are:

Credit Availability: Credit plays a critical role in driving both the markets. The easy availability of credit at low rates has brought student loans to extraordinary levels, similar to mortgage loans..

Government Sponsored Programs: Student loans, much like housing finance, are often the result of government-sponsored programs, and it has been a burgeoning market thanks to the introduction of so many government sponsored programs in past few years. Yearly student loan originations grew from $53 billion to $120 billion between 2001 and 2012, with about 90% of origination of these loans in recent years occurring through federal student aid programs.

This issue has been one of the main concerns for higher education policy makers. Even in 1980’s, student loan trends made the then secretary of education William Bennett raise the issue and highlighted how increasing federal financial aid has caused the rise in tuition in various colleges and universities lately.

Apart from the points mentioned above, other similarities are:

Importance and need : More studies are needed on the two markets because both represent the American dream: Getting a great education and owning your own home. The idea that higher education leads to the best paying jobs has people willing to pay higher and higher costs to attain the dream.

Poor risk analysis: During the housing bubble, many investors and ratings agencies did not properly assess the risk of default in mortgage backed securities. Similarly, higher education borrowers tend to go with the trend, without properly analyzing the risks and rewards associated with their decisions.

No Proper credit checks: Before giving loans, banks need to make sure that borrower has a good credit score and can pay back the amount, but in both mortgage and student loans anyone or almost everyone is able to get loans. In fact in both the industries credit score requirements and overall qualification requirements were lowered to obtain a loan.

Confused borrowers: Both the industries are spoiled because of confusion. Both industries suffer from confusing application and repayment processes, and both industries are notable for a real lack of information in those areas.

Source: http://www.newyorkfed.org/