Student debt problems have received considerable attention of late. The general media have focused on individual hardships and broken dreams. The financial media have focused on how much will likely go unpaid, often referring to the potential for loss as a “bomb.” By noting that student debt is second only to mortgage debt as a line item of household liabilities, much of this financial discussion sensationalizes the problem by drawing an implicit parallel to the mortgage-debt trouble that seemed to have Wall Street on the brink of collapse during the financial crisis of 2008–09. The reality, though far from happy, is less dangerous. Prospective student debt failures are neither large enough nor widespread enough to threaten anything near those troubles of six-plus years ago.
According to the U.S. Treasury, student debt in the United States has indeed exploded, growing more than 300% during the past nine years. It presently stands at about $1.2 trillion. That is not a small figure. A careful parsing of consumer credit categories confirms that student debt is one of the highest costs among household liabilities. The reports indicate that default rates already approach 20%. Debt forgiveness rules promoted by the Obama administration (“forbearance,” in Washington’s way of speaking) will mean that an estimated additional $125 billion, or 10%, of this outstanding amount will also never get repaid, bringing the total expected loss to some $365 billion.1
Large as this number looks, it needs perspective to gauge potential financial impact. According to the Federal Reserve, all forms of non-mortgage credit in the household sector amounted to $9.4 trillion at the end of the third quarter (the most recent period for which data are available). Mortgage debt outstanding amounts to $13.4 trillion. Potential losses on student loans, then, would amount to 12.8% of all non-mortgage consumer credit, 9.0% of mortgage debt outstanding, and 8.5% of total household liabilities. That is a significant portion of the total, to be sure, but well short of something that could bring down financial markets. Put another way, this student debt figure amounts to a mere 1.5% of the estimated of $81.3 trillion in household net worth and only 1.2% of the estimated of $95.4 trillion in total household assets.2
What makes this prospective loss still more manageable is that the federal government holds the bulk of it. In 2010, the federal government took over the student loan business, ceased offering subsidies to private lenders, and lodged the bulk of the outstanding debt with the Department of Education, where it remains. Today, only some 16–17% of outstanding student debt lies in private hands, and that portion is dwindling as these debts are repaid or written off. Any mass failure, then, will fall almost entirely on the taxpayer. And in this context, it matters not whether the debt is forgiven or in default: it amounts to a failure to repay either way. Though this is hardly good news for the taxpayer, it certainly fails to constitute a financial game-changer for the private sector. Nor is the amount overpowering in the context of the federal budget. The potential loss amounts to a mere 10.0% of the $3.7 trillion in total annual federal outlays estimated for 2014 and 14.0% of the $2.6 trillion total annual flow of spending for what Washington refers to as “human resources,” mostly entitlement programs.3
None of this discussion aims to label prospective student debt losses a welcome event. The individual distress involved is, of course, incalculable. Only slightly more yielding to quantification is the contribution the whole program has made to the inflation of college costs over past years and prospectively. But as the cause of another financial disaster, the matter can only be described as exaggerated.
1 See, Jason Delisle, “The Hidden Student-Debt Bomb,” The Wall Street Journal, December 30, 2014.
2 Data from the Federal Reserve.
3 See, “Your Taxpayer Tuition Bill,” The Wall Street Journal, December 30, 2014.
The opinions in the preceding economic commentary are as of the date of publication, are subject to change based on subsequent developments, and may not reflect the views of the firm as a whole. This material is not intended to be relied upon as a forecast, research, or investment advice regarding a particular investment or the markets in general. Nor is it intended to predict or depict performance of any investment. This document is prepared based on information Lord Abbett deems reliable; however, Lord Abbett does not warrant the accuracy and completeness of the information. Consult a financial advisor on the strategy best for you.
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