Will Student Loan Forgiveness Actually Work?

Yes, but no. It depends on the definition of “success”.

There has been a lot of hand wringing over student loans ever since outstanding balance crossed the $1 trillion mark in 2013. The idea of blanket student loan forgiveness kicked in not soon after and went into overdrive during the 2020 general election.

Joe Biden dashed the hopes of many when he won the Democratic primary, essentially killing the plan put forth Bernie Sanders to forgive all federal student loan debt. Biden promised to forgive $10,000, with plans to work with Congress on a much higher forgiveness level his first year in office.

Currently, that plan is being tweaked, as the Biden administration recently asked the Secretary of Education, Miguel Cardona, to research the legality of forgiving up to $50,000 in federal student loans via executive action alone. Looking into this option was instigated by the following:

• The tumultuous relationship between both major parties, combined with a razor-thin Democratic majority in the Senate
• Growing pressure from the Democratic party to “do more” than $10,000
• A political strategy for big wins in the first year to gain momentum heading into the midterms in 2022

Naturally, the Republicans went completely bonkers about this plan, deriding the cost and moaning about the national debt. It’s hypocrisy in the highest form, but they’ve got it down to an art.

Meanwhile, Democrats think it’s the greatest thing since sliced bread, since 36 million people, or 80% of borrowers with federal student loans, would have their debt erased in one fell swoop. Chuck Schumer even went so far as to say Biden should ignore the legal research and cancel the debt “with the flick of a pen.”

Legality (and how to pay for it) aside, $50,000 in student loan debt sounds a good idea, helping a lot of people along the way. And as someone with $135,000 in student loan debt, it’s a plan I can get behind, at least one the surface.

But one has to ask, is mass forgiveness really the best way to address the student loan crisis on a national scale?

To find that out, we need to answer the following questions:

• Why did student loan forgiveness become so popular?
• What are the affects of loan forgiveness?
• Would other options be better?

Why Is Forgiveness the Popular Choice?

Politicians, talking heads, and armchair economists can prattle on about the economic benefits of, moral arguments for, and racial justices addressed by student loan forgiveness. But one thing is clear.

Student loan forgiveness is popular because it is simple.

• People (read: voters) like to read about round numbers that come close to or exceed their own salaries.
• Politicians like it because it’s an easy sell to supporters and an easy target for detractors.

Just look at the trials and tribulations of the Public Service Loan Forgiveness (PSLF) program. That program only has 4 qualifications, but it’s been a nightmare from the beginning. Overall forgiveness has 1 criteria: that you have federal student loan debt.

Note: I am working towards loan forgiveness via PSLF because it’s actually a really good program. (See my articles here, here, here, here, and here.) Its main problem is that the Department of Education royally screwed up in the beginning and PSLF got a lot of bad press, which led to a bad reputation.

Can you even name other student loan forgiveness programs? See how many you knew before reading this article from the list below:

• Income-Driven Repayment forgiveness after 20–25 years
• Perkins Loan Cancellation
• Closed School Discharge
• AmeriCorps Education Award
• Bankruptcy Discharge (yes, this is a thing)
• National Institutes of Health Loan Forgiveness

The list goes on an on, but they’re piecemeal and unsexy, and no one wants to do the work to qualify, apply, and get approved.

Mass forgiveness is a flat number for everyone. Period.

What Is the Impact?

The problem with mass student loan forgiveness, like many other simple solutions, is that the outcome is extremely complex to predict. It turns out that science is really fucking hard, even for the “soft sciences” like economics.

But “hard” doesn’t sell, doesn’t get votes, and doesn’t get you on network TV. (That is, unless you’re Pete Buttigieg.)

All it does is get you labeled as a policy wonk, told to sit in the back of the room, and be quiet.

So what would be the outcome of student loan forgiveness? Let’s take a look at some of the most popular guesses.

Creating an Economic Boom?

This one seems pretty easy to understand. If you get millions of people using their cash to pay for other stuff instead of student loans, then all that money would go directly into the economy.

And that’s partly true.

Supporters argue that it would be similar to universal basic income, with

While some research estimates that for every $1.00 forgiven in student loans, $1.00 is put into the economy, that research was performed for the poorest borrowers who were in default already.

Another paper indicates that the economy would only see an influx of $0.23 for every dollar of forgiveness. This is because the poorest borrowers spending their loan payments on the basics of food, housing, and transportation, while the wealthiest would save for larger purchases or invest.

Some may argue that the wealthy households who save their payments for large purchases will ultimately stimulate the economy, but that is countered by research showing that high student loan debt only accounted for 20% of the drop in homeownership for millenials this past decade. The rest was because they graduated into the Great Recession.

Closing the Racial Wealth Gap?

If the economic argument doesn’t work, then maybe forgiving student loans is a moral imperative, helping to address the systemic racism that has increased borrowing costs for minorities over the past several decades.

For example, twenty years after graduating, the median white borrower had paid off 94 percent of their student debt, while the median Black borrower still owed 95 percent of their student debt.

There have been numerous studies showing that the impact of loan forgiveness on Black households would have a much greater impact than on white households, as a portion of total income or total assets.

And that’s great, but the entire story is that Black households will only receive a larger relative impact from student loan forgiveness than white households. Black households would see a 19% jump in relative net worth, while white household would see a 2% increase.

The absolute change is where the benefits flip. Black household would get an absolute change in their net worth of $16,000, while white households see a change of $24,000.

In short, Black households become relatively richer, but white households receive a larger amount of money.

Would this really close the racial wealth gap? It doesn’t look like it, even if it does give a bigger relative cushion to Black households.

Helping Poor People?

Unfortunately, being a minority and being poor are heavily correlated, so this section could be considered a repeat of the prior one. But let’s focus just on money this time, without any other demographics.

Rehashing an earlier argument, the argument is that forgiveness would allow poor borrowers to spend all of their monthly payment on necessities while the rich borrowers would just save or invest.

That is also true, since many “poor” borrowers are actually below the poverty line. Research has shown that, “People who are low-income are going to be benefiting the most, even just looking at their debt-to-income ratios before and after debt cancellation.”

However, similar to the previous issue, there is a problem with using this as a reason for loan forgiveness.

That problem is that any broad-based student loan forgiveness program, even ones that have income limits, disproportionately benefit higher earners with higher debt.

This holds true across the board, no matter the size of forgiveness. Take a look at this quote from a recent research paper that analyzed student loan forgiveness across at $10,000; $50,000; and 100% for everyone.

Full or partial forgiveness is regressive because high earners took larger loans, but also because, for low earners, balances greatly overstate present values.

Consequently, forgiveness would benefit the top decile as much as the bottom three deciles combined.

Blacks and Hispanics would also benefit substantially less than balances suggest.

That is some very concrete language, especially coming from academia.

We can conclude that blanket forgiveness can have some relative benefits for the most indebted, but the absolute benefits go to those who need them the least.

In other words, the rich get richer.

What Other Options Exist?

Should the Biden administration move forward with student loan forgiveness? That’s a tricky question, as it depends on a) your definition of a successful program and b) weighing the political likelihood of passing an alternate bill.

Politics aside, let’s take a look at some other options that might be a better tool than the sledgehammer of blanket forgiveness.

Streamline Existing Forgiveness Programs

The first thing to address is the disaster that constitutes the current loan repayment options, with their draconian requirements and labyrinthine instructions.

PSLF is the worst offender. I love the idea of the program, and it is getting better, but the first cohort that applied got bad information from the servicers and no documentation from the government.

Fixes are being rolled out, such as the updated PSLF help tool, but it is still an onerous process, especially the requirement to work for 10 years before 100% forgiveness. This all or nothing approach should be replaced by either 5 years/50% or the 2-year/graduated forgiveness like the one described in the PSLF bill introduced by Kirsten Gillegrand and Tim Kaine.

The other major forgiveness program to be overhauled is the one available at the end of an IDR repayment schedule. Depending on your plan, you can pay for 20–25 years and get any remaining balance forgiven.

The issue is that, unlike PSLF or the TEACH Grant, the amount forgiven is added to your annual income and taxed accordingly. This “tax bomb” is scary, and experts are already advising borrowers to start saving now.

Furthermore, the standard 10-year repayment plan should not longer be standard. Everyone should be enrolled in an IDR plan upon graduation, with early payoff as a penalty-free option.

Reduce College Costs

Once we have taken care of the people who have student loans, we then need to address the exorbitant costs of post-secondary education.

This is the cue for free market apologists to start gnashing their teeth and rending their sackcloth, but they are losing sight of the forest through the trees.

To be clear, I’m not advocating a government cap on tuition. Rather, I favor a vast expansion of other education options aside from a formal college setting.

• 2-year vocational schools
• Individual classes at community colleges
• Union apprenticeships
• Government run programs (like AmeriCorps, but much bigger)

College has been pounded into our collective psyche for decades as the end-all-be-all path for upward economic mobility, but it is just one of many paths to take.

Supporting these other options will reduce the overall demand for a university education, forcing colleges to a) reduce costs and for the same level of supply or b) reduce the overall supply (i.e. the number of colleges) and keep the same price. Reality will be somewhere in between.

The Takeaway

I’m glad that there is a lot of discussion about student loan debt, but it’s not as big of a problem as we may be led to think. Yes, higher debt isn’t fun, but many people get a lifetime benefit from that debt burden.

The student debt problem is complex, and using mass forgiveness is like using a sledgehammer to kill a fly. We need more nuanced solutions and politicians that are willing and able to support them. Otherwise, the problems solved by mass forgiveness will be overshadowed by the problems exacerbated by it.

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This article is for informational purposes only, it should not be considered Financial or Legal Advice. Not all information will be accurate. Consult a financial professional before making any major financial decisions.