Biden’s student loan bailout and the death of skin in the game

President Biden’s forgiveness of up to $20,000 of amounts owed on 45 million outstanding student loans represents the official death knell for any semblance of market discipline in America. Unfortunately, his administration hasn’t been alone in giving taxpayers’ money without attaching strings attached to ensure everyone has their skin in the game.

Higher education is a good thing, and the more well-educated people we have, and the more educated they are, the better it is for the nation. But there are far better ways to achieve these goals than by using taxpayers’ money in unruly ways that distort the incentives underlying financial markets. Government subsidies abound, and indeed it may be in the public interest from time to time to accept the moral hazard that accompanies a massive taxpayer-funded bailout when the benefit outweighs the moral hazard created. But this delicate balance increasingly seems to be based on political expediency rather than financial reality.

The ultimate cost to US taxpayers of student loan forgiveness could exceed $500 billion, or about one-third of the $1.6 trillion outstanding student debt. That’s roughly equal to the time-adjusted price for the entire savings and loan crisis — a cost authorized by Congress, not just the president or a single political party.

Students can now freely withdraw $20,000 of debt without committing to serve in a nonprofit, the military, or any federal, state, tribal, or local government office—factors that, under current rules, may be the basis for extraordinary student loan relief. The Treasury will simply write a check to the ultimate holders of the loan for most of the amount forgiven or write off that amount from the federal ledgers, again leaving the taxpayers to foot the bill. But consider the moral hazard created. If you had $50,000 left in student loans, would you pay a penny more?

This is just the tip of the financial iceberg that government largesse has built up. Since 1980, the total cost of public and private four-year colleges has nearly tripled, even after adjusting for inflation. Because the federal government lends students money to subsidize these skyrocketing fees, any sense of market discipline is completely shattered, especially when universities don’t share in the loss. Unfortunately, it is not just students and universities that the government has encouraged to dissociate from reality.

The government has created so many financial safety nets that consumer and institutional markets are expected to be bailed out when things get tough enough. During the Great Depression, taxpayer dollars were used to fund a wide range of job-creating activities, including building the Hoover Dam, subsidizing farmers, and hiring authors to write guidebooks. State.

Since then, depositors at failed financial institutions, automakers, insurance companies, airlines, small businesses, investment banks and mutual funds have all received some kind of bailout. subject to varying degrees of financial hardship. Rational fiscal policy would suggest that there are rules that condition government largesse and that they include meaningful commitments and limits if we are serious about not distorting the incentives and risks that make markets work.

In the 1980s, when the bankruptcy of Continental Illinois and 3,000 financial institutions threatened the national economy, significant costs were imposed on senior management, directors and shareholders in exchange for the use of money of the government.

The authors of the 2020 book “The Rise of Carry” suggest that when the government continually bails out financial markets without significant conditions, it actually incentivizes large financial entities to take excessive risks to maximize short-term profits (and compensation). annual), expecting the government to come up with a taxpayer-funded bailout when the bubble bursts.

The founders would be appalled to see taxpayers subsidizing financial corporations that take huge risks, student borrowers who forgo loan commitments when the vast majority of our young people are not attending or graduating from college, and Wealthy educational institutions that increasingly charge incredible sums to support their unbridled infrastructure.

The more we forget about the importance of skin in the game, the more we ensure that taxpayer-funded bailouts will breed even more taxpayer-funded bailouts. We should care, even though politicians don’t seem to care anymore.

Thomas P. Vartanian is executive director of the Financial Technology & Cybersecurity Center and former general counsel for FSLIC. He is the author of “200 Years of American Financial Panics: Crashes, Recessions, Depressions, and the Technology That Will Change Everything.” William M. Isaac is the former Chairman of the FDIC and Fifth Third Bancorp and is Chairman of the Secura|Isaac Group and Blue SaaS Solutions.

Dorothy H. Lewis