The US president says he included debt relief in his bipartisan budget plan — but he didn’t
U.S. President Joe Biden Sunday tweet, “There is a need to provide student loan debt relief to hardworking borrowers to help them recover from the economic damage of the pandemic. That’s why in our bipartisan budget agreement, I worked hard to keep it in place. “
The usual partisan response is to thank Biden for helping them, or to criticize him for handing out to adults who should have more financial responsibility.
This is pretty typical and what you’d expect from the US student loan debate. But the problem is it’s misleading. The so-called Fiscal Responsibility Act of 2023 includes only a $6 million small loan forgiveness program for a small group of eligible individuals. Meanwhile, repayments will resume for the vast majority of borrowers and the $1.78 trillion they owe 60 days after June 30 due to a three-year emergency freeze caused by the Covid-19 pandemic.As described by The Debt Collective, this was lauded by one of the most predatory lenders, SoFi, so much so that they dropped their lawsuit against the U.S. Department of Education.
In effect, Biden let big financial institutions win while canceling about 0.0000034% of the country’s total student debt. You’re probably thinking, like some of the people who commented on Biden’s tweets, that borrowers should resume making payments because they signed up for loans and are supposed to make payments like normal adults. Most developed countries have taxpayer-funded higher education, so student debt is not a major problem, which is bad for the U.S. and global economies.
You might also argue that people not paying their debts is bad for the economy, and that Biden’s plan, which would forgive up to $20,000 of debt for many federal loan borrowers, could pose systemic risks. First, the fact that people haven’t made their monthly payments for over three years immediately disproves this. But more importantly, this is simplistic thinking that understates the extent to which the US financial system is fundamentally broken and corrupt.
Here’s the bottom line: With America’s ridiculously high cost of living, skyrocketing rent prices, and skyrocketing inflation, most borrowers won’t be able to pay off their student loans anyway. A Morning Consult poll last November found that 59 percent of borrowers will be unable to make payments when the federal student debt freeze lifts, meaning they are likely to default on their loans. Even people like the aforementioned debt collectives are organizing a student debt strike.
So it’s not a question of whether people should pay back their loans, many just can’t. The problem for the broader financial markets is that financial markets trade, as they have for decades, so-called student loan-backed securities (SLABS). These are a type of security backed by student loans, meaning investors are essentially betting that people will be able to repay the loans. Since most people have student loans backed by the federal government, forgiving them would not pose any systemic risk to financial markets in this way.
The main problem is private loans, which some 3.6 million people have. These particular loans accrue forbearance interest even though payments have been frozen. Most people whose payments were frozen have not yet paid, meaning they owe more money now than they did before the freeze, and the payment will be even more onerous when it ends at the end of August. This creates a serious risk that people with private loans will default and have a knock-on effect in the market through SLABS.
You can think of this in a similar way to the 2008 financial crisis. During that time, mortgage-backed securitization (mortgage-backed securities) played an excessively risky role in an already highly deregulated financial market. When the housing market bubble burst and people defaulted on their mortgages, Wall Street investors were left with the burden of these mortgage-backed securities, and from there it spiraled, wrecking the global economy.
To be fair, SLABS have fallen from the market in recent years as the freeze went into effect. But they may become more popular again, and more importantly, smart investors may short them based on data that clearly shows that many borrowers will default, which is a major problem. Wall Street investors who have shorted major financial institutions in recent months have been instrumental in some of the biggest banking meltdowns in U.S. history, and they were just as important in fueling the 2008 financial crisis.
Of course, this has nothing to do with any personal lapse in morals by individual investors, but rather the failure of the federal government to foresee this possibility and to regulate what securities can be traded. Other countries and blocs, such as the EU and China, certainly have risky financial products like mortgage-backed securities – but they are much more heavily regulated and far less developed than the US. The United States is unique in its approach to SLABS, both because of its lack of universal higher education and because of its easy financial conditions.
One can easily turn the “be an adult” argument usually directed against student loan borrowers back at investors: You took the risk of a loan that you won’t be able to pay back, so you should live with the consequences. It’s a nice ‘trap’, but it’s completely useless in terms of improving the economic impact of systemic problems in financial markets. Aside from providing some answers to private loan holders — the Department of Education doesn’t appear to have any — a Biden administration really needs a solution, as many investors would be wise to bet on these private loans that are almost certain to default.
Based on what we’ve seen from the way the Fed and government have cracked down on big bank collapses, that probably won’t happen. They are also very clear about the non-existent resolution of the very obvious commercial real estate bubble in the impending death spiral, and the fact that Biden is a long-time friend of creditors.
Finally, in the case of Biden’s proposed federal student loan forgiveness program, it is almost certain that the Supreme Court will shed all influence from legal revisionist and corporate activism jurisprudence. His track record largely suggests he would back that up.
Statements, views and opinions expressed in this column are solely those of the authors and do not necessarily represent those of RT.