As I write this post, the House of Representatives is currently debating the future of student loan interest rates. Under current law, the rates on subsidized Stafford loans for undergraduates (the rates which get the most attention) will double on July 1 from 3.4% to 6.8% without Congressional action. The same debate was held last year under the same parameters, but Congress and the President agreed to extend interest rates for an additional year.
There have been a wide range of proposals put forth regarding plans to address the interest rate cliff, an outstanding summary of which was written by Libby Nelson in Inside Higher Ed. (In addition to the plans listed in that article, some Senate Democrats have supported a two-year extension to current law in order to allow for the Higher Education Act to be reauthorized.) Most proposals move to tie interest rates to the market—represented here by borrowing costs for the federal government—but the plans vary widely in their ideas of what the relevant market should be.
Proposals put forth by the Obama Administration and House and Senate Republicans all tie interest rates to long-term Treasury bills, but vary in their other features. (I’ve previously written on the Obama Administration’s proposal.) While the President has threatened to veto the common House GOP proposal over certain aspects, there is enough common ground here to reach an agreement.
However, proposals put forth by certain Democratic senators, particular Sen. Elizabeth Warren from Massachusetts, confuse long-term lending risks with short-term credit markets. She has proposed tying student loan interest rates (which are repaid for at least ten years once a student leaves college) to the interest rate the Federal Reserve charges banks for very short-term borrowing. Jason Delisle of the New America Foundation, hardly a bastion of conservatism, crushes her argument in a great piece of writing. He notes the confusion between short-term and long-term rates, as well as accounting for the probability of default. I would also note that if Congress wishes to help make college more affordable, it’s a better idea to give the funds upfront to students than to lower interest rates later on–long after the enrollment decisions have been made.
The federal government should move toward some sort of a market-based strategy for interest rates with certain student protections. This would allow for the costs of student loans to be more adequately reflected in the federal budget. (And if interest rates get too high, maybe it’s a reminder for Congress and the President to produce a balanced budget!) With that being said, I would still expect to see a short-term extension of the current interest rates as Congress may end up deadlocked on this issue until the Higher Education Act is reauthorized.