Investing in education Investing in education http://www.federatedinvestors.com/static/images/fhi/fed-hermes-logo-amp.png http://www.federatedinvestors.com/daf\images\insights\article\graduates-throwing-caps-small.jpg August 9 2021 August 10 2021

Investing in education

Will free college and absolving student loans make a difference?

Published August 10 2021
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President Biden unveiled his $3.5 trillion American Families Plan (AFP) in April, and Congress is deep into debate, discussion and negotiation about it. While the separate infrastructure proposal has bipartisan support, the AFP is a much more contentious piece of legislation that likely will have to pass along strict party-line vote through budget reconciliation, probably when Congress returns from its summer recess in mid-September.

The AFP is designed to invest in education from early childhood to graduate school, pay tuition for two years of study at community colleges and make attending a four-year college more affordable for low- and middle-income students. The latter includes Historically Black Colleges and Universities, Tribal Colleges and Universities and other minority-serving institutions.

The Biden administration also has urged Congress to pass legislation to write off $10,000 in student debt per borrower, although some Senators like Elizabeth Warren (D-Mass.) want the president to use his executive power to eliminate $50,000 in student loan debt for all borrowers. Senate Republicans have resisted efforts to forgive student debt, stating that such a move would cost taxpayers heavily and introduce a significant moral hazard for individuals who did not attend college or have already paid off their loans.

Student loan debt a growing problem Nearly two-thirds of U.S. students have taken out loans to attend college, with an average debt of $37,500 in 2020. According to the Federal Reserve Bank of New York, 43 million Americans collectively owe $1.6 trillion. That’s roughly one out of eight, or 13% of the total U.S. population, so it’s understandable this has become a political hot potato.

Sen. Warren, Senate Majority Leader Chuck Schumer (D-NY) and progressive House Democrats say that forgiving $50,000 per borrower would cost taxpayers only $650 billion and are urging the Biden administration to agree to it. The median student loan balance in the U.S. is $22,000, though many lower-income students owe less because of grants that cover much of their tuition.

Doctors and lawyers would benefit most The main beneficiaries of this larger loan-forgiveness program would be higher-income students who borrow more for expensive graduate degrees. Law school graduates average $150,000 in debt, and medical school graduates have borrowed an average of $200,000. According to a University of Chicago study in December 2020, the top 10% of households by income would receive seven times as much benefit from a $50,000 loan write-off as the bottom 10%.

Medical doctors and lawyers with six-figure salaries should be able to repay their loans and don’t need the write-off. As an alternative to repaying their student loan debt, however, perhaps for a set period of years lawyers could work as public defenders and doctors could serve Medicaid patients to reduce their loan balance.

Although it’s unlikely that cancelling $50,000 in federal student loan debt would pass through Congress, Biden did endorse $10,000 in student-loan cancellations as an immediate coronavirus pandemic response. The Senate could use budget reconciliation to pass student-loan forgiveness along a party-line vote and with Vice President Kamala Harris breaking the tie, but this issue appears unlikely to garner bipartisan support

Is free community college a cost-effective option? Biden also is proposing free community college to Americans as a cost-effective first step to earning a college degree and improving their career opportunities. First Lady Jill Biden teaches English at Northern Virginia Community College, so Biden understands this dynamic first-hand.

Community college tuition costs roughly one-tenth of an average four-year private university, even less when factoring in room and board. Elite private universities cost more than $70,000 per year these days. For students who complete their first two years at a community college and finish their last two at an in-state public college while living at home, the total cost would be a small fraction of four years spent at Princeton, Harvard, Yale, Stanford and the like.

The AFP would guarantee that students from families earning less than $125,000 a year can attend minority-serving institutions tuition- and debt-free. Biden's $109 billion proposal also would double the maximum Pell Grant to almost $13,000 per year, allowing students to use the money to cover living and non-tuition expenses. Due to the sharp pace of tuition inflation over the last 50 years, the value of Pell Grants has plummeted. The maximum subsidy went from covering nearly 80% of the average cost of a four-year degree to less than 30%, leading millions of low-income students to take on debt. By doubling the size of the grants, Biden hopes to ease their financial burden.

While increasing access to community college appeals to lawmakers in both parties, there are disagreements on how to execute such a program. Critics argue that community college is already inexpensive and making it free wouldn’t sufficiently address deep-seated problems with the system, such as that schools are educating students in areas with few jobs. Another issue is that the free-tuition proposal would tilt the playing field against private universities, for-profit specialized training schools, vocational training and online colleges. In 2019, only 41% of students entering public two-year community colleges graduated in six years, so critics wonder why we should subsidize institutions with little merit. With the need for green-collar and vocational jobs on the rise, critics think it is unnecessary for the federal government to pay for community college when students can opt for trade schools that prepare for promising careers.

Research assistance provided by Federated Hermes summer intern Gilles Gouraige.

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Views are as of the date above and are subject to change based on market conditions and other factors. These views should not be construed as a recommendation for any specific security or sector.

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