May 5, 2022
Since the onset of the COVID-19 pandemic in early 2020, the U.S. government’s pause on federal student loan repayments and interest accrual has provided 43 million borrowers a much-needed reprieve from the burden of their more than $1.7 trillion in student loan debt.
But the initial 6-month pause has now been extended six times — twice by President Trump during his administration, and four times by President Biden since taking office (most recently with a four-month extension last month through the end of August 2022) — spurring often contentious debate over the subjects of repayment and even potential wide-scale forgiveness of federal student loans.
On one hand, critics argue the continued extensions and possible widescale forgiveness would not only aggravate the problem of already high inflation in the U.S. — making it harder to control spending and curb consumer price increases in a hot economy — but also disproportionately benefit well-to-do borrowers who could easily resume repayment with little impact on their respective financial situations.
Indeed, according to a new working paper from the University of Chicago’s Becker Friedman Institute for Economics, erasing all federal student loan debt (as some progressive lawmakers have urged) would effectively distribute roughly $192 billion to the top 20% of earners in the U.S., compared to roughly $29 billion to the bottom 20%. Moreover, they point out universal loan forgiveness would benefit the top decile of earners approximately as much as the bottom three deciles combined.
It also compounds uncertainty for federal student loan borrowers. Just prior to President Biden’s latest extension last month, Anthony Noto, CEO of student loan refinancing solutions leader SoFi Technologies (NASDAQ: SOFI), argued as much in his recommendation for President Biden to 1.) extend the freeze only to borrowers in need, while 2.) forgiving $10,000 in loans for borrowers in “in default or distress” (more on that in just a minute).
Borrowers today are paralyzed with uncertainty. Should they be socking away their savings in the expectation of having to eventually restart payments? Or can they use that money to make a down payment on a home, or invest in their retirement? Should they refinance their student loans at today’s low interest rates in advance of likely rate hikes this year and next year? Or should they avoid that cost-saving opportunity because then they might not be eligible for debt forgiveness should that ever materialize? For high school seniors, is it even worth worrying about the cost of the university they choose if there might be universal debt forgiveness? This is the cost of ambiguity — not giving current borrowers and future borrowers the chance to plan their futures.
On the other hand, proponents of federal student loan forgiveness and continued extensions argue that many borrowers remain in a perilous state. They also reason that any potential spur to inflation is minimal (various estimates suggest broad student loan forgiveness would increase annualized inflation anywhere from 0.1% to 0.5%) compared to the positive impact they would have on borrowers’ lives.
According to Ben Kaufman, Director of Research & Investigations at the Student Borrower Protection Center:
Reducing demand by ending the payment pause means telling these borrowers to once again begin choosing between their student loan bills and basic necessities such as food, clothing, and housing. […] Gasoline is hitting all-time record prices, “chaos” continues to reign across supply chains, and the return of war in Europe has injected massive uncertainty about the availability of basic commodities. These are all reasons to broaden student loan relief, not to limit it.
Fortunately, we might receive clarity on the situation sooner than later.
During a speech in the Roosevelt Room at the White House last week, President Biden had this to say regarding the potential for wide-scale student loan forgiveness [emphasis mine]:
I am considering dealing with some debt reduction. I’m not considering $50,000 in debt reduction. But I am in the process of taking a hard look at whether or not there will be additional debt forgiveness. And I’ll have an answer on that in the next couple of weeks.
While removing the option for $50,000 in debt reduction might anger some of the more progressive leaders calling for larger-scale loan cancellation, this shouldn’t be entirely surprising; Biden campaigned on his ability to work with both sides of the aisle and his long history of finding the middle ground. And he previously voiced support during his presidential campaign for proposals to forgive $10,000 in federal student loan debt per borrower.
Noting the words “additional debt forgiveness,” I’d also be remiss if I didn’t point out that the Biden Administration has already cancelled more than $20 billion in federal student loans so far (or just over 1% of the $1.7 trillion total) using a targeted approach for specific groups. Among that total so far was $5.8 billion for borrowers with a “total and permanent disability,” $3.9 billion for public service workers, and more than $2 billion to borrowers who have been “deceived” by their institutions (take exaggerated job placement rates advertised by ITT Technical Institute and DeVry University, for example).
For perspective, canceling $10,000 per borrower would eliminate around $321 billion of federal student loans, erasing the entire loan balance for around 30% of all borrowers in the process.
But the final number might not be quite as large as $321 billion, as we shouldn’t expect blanket cancellation when Biden provides his “answer” on additional debt forgiveness in the coming weeks. Rather, according to White House Press secretary Jen Psaki on Tuesday, he’s leaning toward limiting additional loan cancellation to Americans earning less than $125,000, supporting the notion that any broad forgiveness should seek to exclude high earners and focus more on distressed borrowers.
Even then, broad loan cancellation doesn’t solve the underlying problem of unaffordability that brought us to this point in the first place. According to some estimates, without deeper structural changes to the current federal student loans, even forgiving all outstanding federal student loans today without more significant underlying change would see the total balance return to $1.7 trillion within a decade.
To that end, Biden has previously expressed support for a number of proposals to improve communications for income-driven repayment (IDR) plans, with nearly half (49%) of all undergraduates reporting being unaware of available IDR options for their loans. Biden has also suggested making income-driven repayment plans more generous (reducing the share of income paid, for example, prior to the balance of loans being ultimately forgiven after a period of 10 to 25 years) and accessible to a larger number people.
But this is an investing site that focuses on buying and holding individual stocks. So why does this matter to us?
Well, in some cases individual stocks are impacted. SoFi’s student loan refinancing business has operated at 50% of pre-COVID-19 levels since the pandemic began, for example — and shares have been crushed (exacerbated, no doubt, by a broader pullback in riskier growth stocks) even as the company has expanded its reach to a plethora of other fintech and banking solutions. Shares of student loan servicing leader Nelnet (NYSE: NNI) have also come under pressure in recent months — however arguably unjustified given its relative diversification and long history of consistently compounding its per-share book value. So, to have a deeper understanding of the dynamics of the student loan situation enables us, as individual investors, to identify possible opportunities.
Finally, though they’re but one “small” piece of a much larger economic pie, we can’t ignore the impact of the 13-figure scope of the remaining book of federal student loans. We must also consider the undeniable ripple effects of any action — whether an extended repayment/interest accrual pause, loan cancellation, refinancing, or deeper structural shifts down the road — on inflation, consumer spending trends, and the healthy of the economy in general.
Suffice to say it’s not a simple problem to solve. But one way or another, we should receive some clarity on the government’s chosen solution to a large part of that problem soon.