Some students have accumulated hundreds of thousands of dollars in student debt without obtaining a qualification. In response, the government has proposed restricting access to government-subsidised student loans. Unless there is a compelling explanation, students who fail half their first eight subjects will be unable to access loans. This proposal represents a vital reform of the student loan system, but more needs to be done.
The philosophy underlying student loans is sound. Income-contingent student loans are an efficient, fair, and attractive way to for students to invest in their education. Unlike credit card or mortgage loans, it is impossible to default on an income-contingent loan because repayments are matched to a graduate’s income. Graduates who are out of work, take time off to raise children or never reach the earning threshold, have no obligation to make payments.
Because tuition fees need to be paid upfront, income-contingent loans make access to higher education a matter of brains, not bankbooks; but they come at a cost. If graduates never earn enough money to repay their loans, taxpayers absorb the loss.
The total amount owed by students is approaching $70 billion, more than double Australia’s national credit card debt. Last year, the government estimated that 16% of student debt would never be repaid. The amount is likely to be much higher in an economy wracked by COVID-19. Taxpayers, if there are any left, will have to cover the cost.
Although they serve a worthy social purpose, income-contingent loans also provide many opportunities for what economists call ‘moral hazard’. (Moral hazard is a fancy term for taking risks and sticking someone else with the consequences.)
For example, the loan system encourages students to borrow more than they would if loan repayments were not income-contingent. (Around 6% of graduates owe $100,000 or more.) Students take on high levels of debt because the government is taking most of the risk.
If graduates benefit from their education and reach the income repayment threshold, they repay their loans. If they never reach the income threshold, they are not required to make repayments, and the government absorbs the loss.
Imagine offering loans to stock market speculators on similar terms. If they make a killing, they repay their loan and keep the profit. If their investments collapse, the taxpayer makes good their losses. Who wouldn’t accept such a deal?
Moral hazard also applies to universities. Because they receive their fees upfront from the government — actually from taxpayers –and are not responsible for collecting loan repayments, they may be tempted to admit academically marginal students. After all, it is not the universities, but the taxpayers that have to cope with any losses.
Limiting loans for failing students is one way to make universities accept part of the repayment risk. But it is not only failing students who do not repay their loans. The government should also consider making universities partly responsible for the unpaid loans of students who manage to graduate but never earn enough to repay their loans.
Universities would be more careful about the students they admit, their course offerings, and the effectiveness of their teaching if they had skin in the loan-repayment game.
The income-contingent loan system insulates universities and students from losses. At the same time, the government (on behalf of the shrinking number of taxpayers) bears most of the risk. Reducing failing students’ access to loans is an excellent first step. Still, the system could be improved further by moving more of the risk to universities.
Emeritus Professor Steven Schwartz AM is a Senior Fellow of the Centre for Independent Studies and the former vice-chancellor of Macquarie, Brunel and Murdoch Universities.
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