Understanding the Implications of Student Debt

March 2015 Nancy Gallagher, Senior Associate Understanding the Implications of Student Debt B Y NANCY GALLAG HER, SENI O R ASSO CI ATE Introduction...
Author: Brenda McGee
0 downloads 2 Views 1MB Size
March 2015

Nancy Gallagher, Senior Associate

Understanding the Implications of Student Debt B Y NANCY GALLAG HER, SENI O R ASSO CI ATE

Introduction U.S. student loan debt outstanding has grown from $350 billion in 2004 to more than $1.1 trillion as of June 2014. Experts speculate that the $1.1 trillion of U.S. student loan debt is more than the rest of the world combined.1 Higher education in the United States is expensive, to say the least. The annual growth rate in costs for private institutions since 2001 has been 4.1%, and for public universities, where costs have almost doubled in the past decade, this increase is 6.3%. To put this in perspective, overall inflation during this same time period was 2.5%.2

Background According to the Federal Reserve of New York, the federal government began guaranteeing student loans provided by banks and non-profit lenders in 1965, creating the program that is now called the Federal Family Education Loan (FFEL) program. The first federal student loans, however, provided under the National Defense Education Act of 1958, were direct loans capitalized with U.S. Treasury funds, following a recommendation from economist Milton Friedman. Currently, the majority of student loans (approx. 85%) are either directly issued by the U.S. government (Direct Loan Program) or guaranteed through the Federal Family Education Loan Program (FFELP). In 2010, the FFEL program was eliminated for all new loans made as of July 1, 2010.1

1100 Superior Avenue East • Suite 700 • Cleveland, Ohio 44114

HARTLAND.com

Understanding the Implication of Student Debt B Y NANCY GALLAG HER

Growth of Student Debt As already mentioned, total U.S. student loan debt outstanding, has grown from $350 billion in 2004 to more than $1.1 trillion as of June 2014. This means that student debt increased by an average of 11.4% per year. According to the Federal Reserve Bank of New York, as of the end of 2012, about two-thirds of this debt is owed by borrowers under 40, with about one-third of the total being owed by borrowers under 30. Americans above 40 also have student debt, but their share is much smaller, with 17% held by borrowers in their 40s, 12% held by borrowers in their 50s and the remainder held by borrowers 60 and older.

Over the past ten years, student debt has steadily risen, while balances on household debt, including mortgages, credit cards, auto loans, and home equity lines of credit have declined. When looking at households’ liabilities, student debt can be second to mortgage debt and one of the highest costs among household liabilities. Some of the key drivers of student debt growth include: More people are choosing more years of higher education, according to the New York Federal Reserve. This is due in part to demographic changes, growth in the 20-34 year cohort, and in part to the weak economy, with students staying in school longer. Moreover, a greater proportion of students are taking out Federal student loans (48% as of 2012, up from 33% in 2002). •

Recent high school graduating classes have been among the largest in history, and college enrollment has expanded 19% over the last 10 years. Due to lack of viable employment opportunities more students are returning to graduate school.1



Households hit by the mortgage crisis are now unable to secure equity from their homes to help finance college expenses.1,2

1100 Superior Avenue East • Suite 700 • Cleveland, Ohio 44114

HARTLAND.com

Understanding the Implication of Student Debt B Y NANCY GALLAG HER

Outstanding loan balances are declining more slowly than originally anticipated due to both increased volume of loans in deferral and forbearance, as well as longer loan maturities.1 •

Rising tuition costs lengthen repayment times, while new forbearance and income-based repayment plans have allowed graduates to delay loan repayment.1



According to the Federal Reserve Bank of New York, the average student borrower graduating in 2012 had nearly $25,000 in debt compared to $15,000 in 2004. These student debt levels can take a long time to pay off, delaying other big ticket purchases. Young people are more likely to rent or live at home during their twenties, which has an important impact on the real estate and housing industries.

1100 Superior Avenue East • Suite 700 • Cleveland, Ohio 44114

HARTLAND.com

Understanding the Implication of Student Debt B Y NANCY GALLAG HER

The growth in for-profit schools, which accounts for the majority of growth in higher education students and has broadened the use of student financing.1 •

Students at for-profit institutions represent 12% of all higher education students, 26% of all student loans and 44% of all student loan dollars in default.3



The median Federal student loan debt carried by students earning associate degrees at for-profit institutions was $14,000. More than a quarter of for-profit institutions receive 80 percent of their revenues from taxpayer-financed Federal student aid.1

Implications for the Broader Economy Clearly, student loan debt has mushroomed over the past decade, increasing to $1.1 trillion, and is one of the highest costs among households. According to the U.S Treasury, default rates already approach 20%. Debt forgiveness rules promoted by the Obama administration will mean that an estimated additional $125 billion, or 10%, of this outstanding amount will never get repaid, bringing the total expected loss to some $365 billion. To put this in perspective, potential losses on student loans, then, would amount to 12.8% of all non-mortgage consumer credit, 9.0% of mortgage debt outstanding, and 8.5% of total household liabilities.1, 4, 5 The sad predicament of the financial crisis and its aftermath is that young adults launched their careers in a historically weak economy, with limited wage growth and high underemployment. These graduates are facing an uphill economic climb that differs from previous generations. The realities are overwhelming: $1.1 trillion in student loan debt outstanding, with 14% of 25- to 34-year-olds living at home and historically low purchase activity from first-time homebuyers.6 The longer-term consequences of carrying student debt could affect lifetime choices. A recent study by Brent W. Ambrose of Pennsylvania State University, and Larry Cordell and Shuwei Ma of the Federal Reserve Bank of Philadelphia, found a significant and economically meaningful negative correlation between changes in student loan debt and net business formation for the smallest group of small businesses. Historically, 60% of jobs are created by small business. Those with large student debt balances would be inclined to stay an employee versus risking the financial unknown of entrepreneurship.1 Other more obvious effects of having to manage large student debt balances could include delays in marriage, home ownership, and having children. Retirement planning, overall net worth and credit scores could also be affected by large monthly student loan payments.

1100 Superior Avenue East • Suite 700 • Cleveland, Ohio 44114

HARTLAND.com

Understanding the Implication of Student Debt B Y NANCY GALLAG HER

However, achieving a college degree is an accomplishment both personally and financially. According to the Bureau of Labor Statistics, the median income for 25- to 34-year-olds with a college education is twice that of those who only completed high school. Meanwhile, the unemployment rate for college graduates is just 2.8%, 2.9% below the national unemployment rate and far below the 8.5% unemployment rate for those without a high school diploma.6,7 Overall, students and society benefit substantially from investments made in education. A better-prepared workforce improves our chances of remaining economically vital and competitive, globally. Sources: 1 - Federal Reserve of New York 2 - “The View From Here, Reflections on the Student Debt Crisis”, Carl Tannenbaum of Northern Trust, July 26, 2013 3 - The Institute for College Access & Success, September 24, 2014 4 - US Treasury Department 5 - “Student Debt: Grading the Threat”, Milton Esrati, February 18, 2015 6 - “Late, Not Lost: The Economic Drag From the Millennial Generation”, Joshua Anderson, Emmanuel Sharef, Jason Mandinach of PIMCO, September 2, 2014 7 - Bureau of Labor Statistics IInformation provided in this article is general in nature, is provided for informational purposes only, and should not be construed as investment advice. The views expressed by the author are based upon the data available at the time the article was written. Any such views are subject to change at any time based on market or other conditions. Hartland disclaims any liability for any direct or incidental loss incurred by applying any of the information in this article. All investment decisions must be evaluated as to whether it is consistent with your investment objectives, risk tolerance, and financial situation. The performance data shown represent past performance. Past performance is not indicative of future results. Current performance data may be lower or higher than the performance data presented.

MARKET BENCHMARK RETURNS February 28, 2015

1M

3M

12M

YTD

US Large Cap

S&P 500

5.7%

2.3%

15.5%

2.6%

US Small Cap

Russell 2000

5.9%

5.5%

5.6%

2.5%

Developed Intl

MSCI EAFE

6.0%

2.9%

0.4%

6.5%

Emerging Intl

MSCI Em Mkt

3.1%

-1.0%

5.4%

3.7%

Real Estate

NAREIT

-2.6%

4.0%

20.9%

2.9%

Core Fixed

BarCap Agg

-0.9%

1.2%

5.1%

1.1%

Short Fixed

BarCap 1-3Yr

-0.2%

0.1%

0.8%

0.4%

Long Fixed

BarCap 10+Yr

-3.4%

4.5%

16.0%

2.8%

Corp Debt

BarCap Corp

-1.0%

1.8%

6.5%

1.8%

Source: Bloomberg

The performance data shown represent past performance. Past performance is not indicative of future results. Current performance data may be lower or higher than the performance data presented.

1100 Superior Avenue East • Suite 700 • Cleveland, Ohio 44114

HARTLAND.com

Suggest Documents