Monday, September 14, 2009

The Quietest Trillion

Congratulations. You're about to own $100 billion a year in student loans

The furor over President Obama's trillion-dollar restructuring of American health care has left his other trillion-dollar plan starved for attention. That's how much the federal balance sheet will expand over the next decade if Mr. Obama can convince Congress to approve his pending takeover of the student-loan market.

The Obama plan calls for the U.S. Department of Education to move from its current 20% share of the student-loan origination market to 80% on July 1, 2010, when private lenders will be barred from making government-guaranteed loans. The remaining 20% of the market that is now completely private will likely shrink further as lenders try to comply with regulations Congress created last year. Starting next summer, taxpayers will have to put up roughly $100 billion per year to lend to students.

For decades, loans carrying a federal guarantee have been the most common way of borrowing for college. After raising money in the private capital markets, lenders made the loans, paying a fee to the government for each one. The government covered most of the cost of defaults while allowing the private lenders to make a regulated return.

The system broke down after Congress in 2007 legislated a return so low that no private lenders could make money holding these assets. To keep the money flowing to student borrowers, the government began buying the loans from private originators last year. But this larger federal role was intended to be temporary, with an expiration date next summer. The news from Washington now is that rather than scaling back federal involvement, the pols want the U.S. Department of Education to be the exclusive banker to America's college students.

It's not a popular idea on campus. Loans directly from the feds have been available for decades, but the government's poor customer service has resulted in most borrowers choosing private lenders. This week three dozen college administrators, representing schools from Notre Dame to Nevada-Reno, signed a letter urging a longer transition period to this "public option." The fear is that the bureaucrats will not be able to pull off a takeover in just eight months. "Any delay in getting funds to schools on behalf of students will result in our needing to find resources at a time when credit is difficult to obtain," warns the letter.

Tough luck for the Irish. Democrats have already greased this fall's budget reconciliation to pass all of this on a mere majority vote. They are helped by rigged government accounting that disguises the cost of making below-market loans to unemployed 18-year-olds. Democrats have claimed their plan "saves" $87 billion in mandatory spending by cutting out the private middlemen, and the Congressional Budget Office has dutifully "scored" $87 billion in mandatory "savings" (or a net of $80 billion after subtracting administrative costs).

But in a remarkable letter to Senator Judd Gregg, CBO Director Douglas Elmendorf admits that government accounting is bogus. He writes that the statutory methodology "does not include the cost to the government stemming from the risk that the cash flows may be less than the amount projected (that is, that defaults could be higher than projected)." Mr. Elmendorf further notes that the government's accounting system is specifically skewed to make direct loans from the government appear to cost much less than guaranteed loans made by private lenders. He says the real "savings" are only $47 billion, even though, in a deception that would be criminal fraud if it weren't mandated by Congress, the official estimate remains at $80 billion.

Even the unofficial number is dubious. The government has been claiming lower default rates than private lenders, but most government loans have been to students at four-year colleges. The private lenders have serviced a higher percentage of students at community and two-year colleges, where defaults are more common regardless of lender.

If the feds are now making and owning all such loans, expect default rates to soar. When the government hires contractors to collect on its loans, it pays them for simply calling the borrower, regardless of the result. Private lenders, on the other hand, make money from a performing loan and have a greater incentive to do careful underwriting and aggressive collection.

The government will nonetheless start spending these illusory "savings" immediately, and this spending is certain to top official estimates. The Obama plan also adds a CBO-estimated $46 billion in new spending over 10 years to enlarge Pell grants. Ominously for the federal fisc, starting in 2011 these grants will automatically rise each year by the consumer price index plus 1%. Not that students will actually benefit from this subsidy explosion. Colleges have reliably raised prices to capture every federal dollar earmaked for education financing.

Rep. John Kline (R., Minn.) decided the cost estimate for Pell grants was too low, so he asked CBO to take a second look. Along comes another enlightening letter from Mr. Elmendorf. This week he wrote that Mr. Kline is correct —it looks like they will cost another $11 billion. Unfortunately, the earlier estimate must remain the official score under budgeting rules, even though the official scorekeeper says it is wrong.

All of this is certain to pass the House, and the only chance for stopping it is in the Senate. If it passes, parents will soon have no choice beyond a Washington bureaucracy to borrow money for their college-bound children, and taxpayers will pay a fortune for the privilege.


“Inconsistent” British degrees to be overhauled

Universities are to face a reform of their marking systems after accusations that some are awarding too many first-class degrees. Vice-chancellors announced yesterday at their annual conference in Edinburgh that they had decided to review their marking to ensure consistency. It comes a month after MPs attacked universities for having wildly different degree standards.

In a separate move, the Government will expect universities to give more information to students about how many lectures they will have and their employment prospects.

In a combative speech to vice-chancellors at the event, organised by their representative body, Universities UK, David Lammy, the Schools Minister, said: “Even if you aren’t complacent about quality, you sometimes appear to be. I think you have to recognise that and deal with it. “Clear and accurate information must be a big part of that. Learners need to know what their courses will involve, how much teaching they’ll get and how they’ll be assessed.”

Announcing the evaluation of degree standards, Professor Steve Smith, the Vice-Chancellor of the University of Exeter and the new president of Universities UK, told the conference: “We will lead a UK-wide review of external examiner arrangements to ensure that it is a robust system that delivers on expectations.”

The move comes after a highly critical report by MPs on the Innovation, Universities and Skills Select Committee saying that vice-chancellors were guilty of “defensive complacency” and were unwilling to address problems with degree standards. It said: “There needs to be a change of culture at the top in higher education. We found no appetite to investigate important questions, such as the reasons for the steady increase in the proportion of first-class and upper second-class honours degrees over the past 15 years, or the variation in study time by students taking the same subjects at different universities.”

Mr Lammy also told vice-chancellors at the conference that they must be more responsible for raising money, rather than relying on the taxpayer in the recession. He announced a new era of funding, with universities forced to compete for cash and concentrate on improving their own “economic outcomes”. He said: “In funding terms, universities have had it good for more than a decade. Nevertheless, current levels of public investment are unlikely to be sustainable in future.

“The sector’s future prospects depend on how you face up to the financial challenges that are coming. Not least, that includes taking a disciplined approach to pay and pensions. “But there are also more positive steps you can take, like continuing to diversify your sources of income by encouraging endowments or providing bespoke training [for companies]. “Private investment in universities has not kept pace with the huge increases in public spending that the last decade has brought. Any sensible analysis can only conclude that you need to find new ways to leverage more private money into the system.”

Mr Lammy said that a greater proportion of the public money awarded to universities in future would be “contestable”. Institutions would have to bid for it and the best bid would receive more, rather than being awarded a grant calculated according to their size. This contestable funding would favour maths, science and engineering.

Professor Smith, however, said that ministers should spend more public money on universities because of the recession. “Universities are fundamental to achieving social and economic progress and to establishing the kind of country that can compete and prosper in the future,” he said. “But for the UK to win the race to the top the university sector needs investment.” He admitted that it would be unrealistic for all of the investment to come from the taxpayer.

A review of tuition fees is due to begin this autumn and is expected to recommend lifting the £3,000 annual cap on fees, which would bring in more income from students.


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