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Wednesday, November 25, 2020

ANALYSIS/OPINION:

Everyday people make big financial decisions. Decisions to buy a car, a house, a college degree. Buying a car often requires an auto loan. If an individual takes an auto loan, he is expected to repay it. If the individual buys a home, and takes a mortgage, he is expected to repay that, too. Credit card debt? Of course, he repays it.

But what about a college education? According to Joe Biden, the same responsibilities do not apply.


Prior to the election, former Vice President Joe Biden planned to forgive $10,000 per federal student loan, reported The Wall Street Journal. His plan would also eliminate the debt held by students attending public colleges, those earning under $125,000, and those who “show they were defrauded by for-profit colleges,” according to Josh Mitchell with The WSJ.

In a recent interview with Anand Giridharadas, Sen. Chuck Schumer of New York Democrat, alluded to a more ambitious solution to the student debt problem. Joining with Sen. Elizabeth Warren of Masschusetts, the two top Democrats are proposing that President-elect Biden cancel $50,000 per borrower with an executive order during his first 100 days.

So, the taxpayer is stuck with the burden. This misguided policy would dig the American taxpayer a several hundred-billion-dollar hole. According to the Foundation for Research and Economic Opportunity, Mr. Biden’s $10,000 loan forgiveness plan would cost roughly $370 billion. Bumping it up to $50,000 per student may bring us close to eliminating the entire $1.5 trillion sum, adding even more to the bulging national debt.

It is a slap in the face to millions of Americans who worked hard to repay their loans or who did not attend college. In fact, 57% of respondents to a September 2019 WSJ/NBC News poll opposed “immediately canceling and forgiving all current student loan debt.” More than that, it is a message to beneficiaries that they do not have to take responsibility for their decisions.

But decisions do still have consequences. By canceling students’ debts, two adverse behaviors are incentivized.

The first is a moral hazard created for students. A few possible outcomes exist as a result. If students are aware their debts will be canceled, they may take on more debt to obtain more college degrees. Future borrowers may engage in the same behavior, taking out higher levels of debt with the expectation of forgiveness. Students may also choose majors that are of interest, but that are associated with low wages, rendering them unable to repay.

The second is a moral hazard in college and university administration finance decisions. In 1987, Secretary of Education William Bennett wrote Bennett Hypothesis. He stated in a New York Times opinion article that “… increases in financial aid in recent years have enabled colleges and universities blithely to raise their tuitions, confident that Federal loan subsidies would help cushion the increase.”

It turns out he was right. In 2017, Economists at the Federal Reserve Bank of New York estimated the impact of expanding federal student loan programs on college tuition. They found that a $1 increase in federal subsidized loans given to student borrowers is associated with a $0.60 tuition increase. They also found that for every $1 increase in unsubsidized loans given out, tuition increases by $0.15.

If simply giving out loans results in such a substantial increase in tuition, imagine what will happen to tuition at America’s universities if administrations know the taxpayer will pick up the bill no matter what.

Joe Biden’s plan is not a good one, but the college debt crisis is a real problem. What, then, is the solution? There is a myriad of potentials but there exists one that is simpler and that does not require policy intervention yet can reduce the burden.

Using American Community Survey data from 2009 to 2017, I analyze the wages of respondents between 22 and 32 with particular college majors that work in particular industries. The intent is to see if people’s decisions to choose certain majors and occupations are associated with higher wages and thus a greater ability to repay student loans.

I find that majors related to business, health sciences and engineering earn higher wages than studies related to education, liberal arts and history. This seems to be due to the skills developed in each program. Skills gained in the higher-paying majors are more in demand than skills developed in the lower-paying majors. Similarly, jobs in financial services, health care and manufacturing tend to pay more than jobs in entertainment, communications, professional services and retail.

This seems obvious but looking at the interactions of majors and industries reveals substantial wage differentials, so substantial that decisions to switch majors and industries to those that are high paying could place students in a better position to repay their debt.

For example, recent graduates who majored in business and work in financial services earn $59,256 on average annually. Engineering majors working in manufacturing earn an average of $63,300. And health science majors working in health care earn $49,484, on average.

In contrast, recent graduates with liberal arts and history majors working in entertainment and communications earn $28,276 and $24,593, respectively.

A 2012 study from the Federal Reserve Bank of Cleveland came to a similar conclusion. It showed that the highest-earning majors are business, engineering, mathematics, computer science and health sciences, while the lowest earning are social sciences, education, humanities and the arts, though the latter tend to be most popular.

Thus, the conclusion is clear. Students must be willing to make smart financial decisions related to what major and occupation. Choosing majors that build skills demanded by high-compensation industries can lead to a greater ability to repay loans quickly.

If students continue to choose majors that develop skills in low demand, policymakers will continue to feel the need to come in and save the day with misguided debt forgiveness. Students and graduates need to start making responsible decisions rather than relying on the American taxpayer.

• Justin Begley is a PhD student in economics at Florida State University.


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