Is Student Debt Forgiveness Good for the Economy and Households?

Democrats in Congress are urging President Biden to forgive $50,000 in student loan debt per borrower by executive order. While it is unclear whether the President has the legal authority to cancel the debt, President Joe Biden has said he would be amenable to forgiving $10,000 per borrower and prefers that Congress enact loan forgiveness through legislation. Experts say that even if a significant share of student loan debt owed to the Federal government was forgiven, it would provide only a modest boost to activity while increasing an already massive Federal budget deficit.

The value of student loan debt has risen rapidly over the past two decades, with $1.7 trillion owed to the Federal government as of the third quarter of 2020, according to the Federal Reserve. The class of 2019 graduates have an average debt of $29,900, including both private and federal debt. And their parents took on average of $37,200 in federal parent PLUS loans. [1]

The impact on government finances would depend on the value of the loans forgiven, but it comes at a tremendous cost. It could potentially add $400 billion to the country’s budget deficit. [2] Meanwhile, the boost to borrowers would only be as large as the previous monthly debt repayments, not the total value of the debt forgiven.

In other words, it’s not like households would receive directly tens of thousands of dollars to spend. According to research from the Federal Reserve Bank of New York, the median monthly repayment is $222. [3] Because borrowers often pay back their loans over 10-30 years, debt cancellation would increase their available cash flow by only a fraction.

Given that President Biden extended the payment pause on federal student loans until September 30, 2021, the immediate impact would be very small.

Even if forgiveness was limited to $10,000, a significant share of the benefits would go to the country’s highest earners. Data from the Federal Reserve’s Survey of Consumer Finances shows that upper-income households account for a disproportionate share of student loan debt and an even larger share of monthly out-of-pocket student debt payments. The highest-income 40% of households (those earning incomes greater than $74,000) owe almost 60% of the outstanding education debt and make almost three-quarters of the payments. In contrast, the lowest-income 40% of households hold just under 20% of the outstanding debt and make only 10% of the payments. [4]

Admittedly, the boost to household net wealth might provide some additional support to spending and reduce debt-to-income ratios, which could improve lower-income borrowers’ access to credit and potentially support auto and home sales. Currently Warren and Schumer say that only borrowers who earn $125,000 or less annually would qualify, which would mean that the overall economic benefits would be smaller. In our minds, there are more effective ways to boost the economy and to direct fiscal aid to those most in need.

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[1] https://studentloanhero.com/student-loan-debt-statistics/

[2] Source: Capital Economics, “US Economics Update: Student debt forgives would do little for economy,” Feb., 18, 2021.

[3] https://thecollegeinvestor.com/33643/average-student-loan-monthly-payment

[4] Source: Brookings Institute, “Who owes the most in student loans: New data from the Fed,” Oct. 9, 2020.

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