Snake Oil, Paul Krugman, Student Loans & Consumer Credit

How many read Professor Paul Krugman’s rant this morning in the NYT Degrees and Dollars?  Here I quote:

….. But there are things education can’t do. In particular, the notion that putting more kids through college can restore the middle-class society we used to have is wishful thinking. It’s no longer true that having a college degree guarantees that you’ll get a good job, and it’s becoming less true with each passing decade.  So if we want a society of broadly shared prosperity, education isn’t the answer…….

Based on this argument, money spent on education is not money well spent.   The Federal Reserve issued its Consumer Credit G.19 report for January 2011:

Consumer credit increased at an annual rate of 2-1/2 percent in January 2011. Nonrevolving credit increased at an annual rate of 7 percent, while revolving credit decreased at an annual rate of 6-1/2 percent.

The Federal Reserve’s headline uses seasonally adjusted data.  The majority of revolving credit is from credit cards, while non-revolving credit includes automobile loans and all other loans not included in revolving credit, such as loans for mobile homes, education, boats, trailers, or vacations.

Sounds like the consumer is at it again – NOT.  What the headlines and the data do not say unless you dig a little is that consumer credit would be down – in total and in all parts – if it was not for the Federal Government handing out student loans.

The government has handed out $167 billion of student loans since the end of 2009, while non-revolving credit has risen only $37 billion.  Without the student loans non-revolving credit would be much lower, declining even more than revolving credit.  The implication is that current non-revolving credit outstanding would be about $1.44 trillion, well below the level at the end of 2009.

The credit unwinding cycle remains intact even with the seasonal rise during Christmas.

Is the government trapping youth with loans?  Are they becoming snake oil salesmen?  Professor Krugman implies they are.

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The analysis is incorrect. The increase in federally-guaranteed student loan volume is minor. The misunderstanding is based on the Fed's lack of comprehension of how federal student lending has worked since 1966. When the Fed decided to add outstanding federal student loans to G-19 in 2005, it actually included only included two types of outstanding federal student loans: (1) Direct Loans and (2) on-balance-sheet Sallie Mae loans (Sallie had terminated its GSE function in 2003 but apparently it was one of the few student loan companies the Fed had heard of). Unfortunately these two categories together represented a small percentage of the outstanding federally-guaranteed student loan balances. Sallie Mae was (and is) the largest holder of managed federally-guaranteed student loan balances, but most of its managed holdings were (and are) off-balance-sheet (securitized). The Fed made no effort to include the loan balances held by banks, non-bank lenders, non-profits, state lending authorities, and secondary markets (other than Sallie Mae). Why is this important? Due to the 2007-08 international liquidity crisis, Congress authorized a massive bailout of federally-guaranteed student lending in March 2008. The U.S. Dept. of Education financed most of the federally-guaranteed student loan volume for academic years 2008-09 and 2009-10 and ended up purchasing two thirds of the 2008-09 volume and 95% of the 2009-10 volume when lenders were still unable to obtain liquidity. In addition, colleges, frightened by lenders' claims that lenders were having difficulty finding loan capital sources internationally, began to migrate to the Direct Loan program, particularly for 2009-2010. Finally, seeing that the Education Dept. was already financing federally-guaranteed student lending, Congress saw an easy rationale to terminate authority for new loan volume in the guaranteed program, and all new volume is through Direct Loan starting 7/1/2010. As both Direct Loans and the guaranteed loans purchased by DoEd are included in the Fed's G-19 outstanding balance totals, there is an illusion of a huge increase. It is an illusion because it doesn't reflect an increase in borrowing by students and parents. It reflects the transition from guaranteed student lending to federally-financed guaranteed student lending and, finally, to 100% direct lending.

Steven Hansen
Steven Hansen

@ Craigie, a very reasoned comment. although i have no way to validate that the amount of student loans (the total of government and private) has changed between the pre and post recession periods, i would assume that the total amount loaned may be roughly similar. except today, it is the government doing all the loans. the question on the table however, is not the amount - but who is issuing (guaranteeing) the loans. the federal reserve is claiming there is adequate liquidity, and the securitization market is in fairly good shape. it begs the question of why this is occurring. Its appearance on the balance sheet appears out of place - and debate should be opened on whether this is the original intent of Title IV of the Higher Education Act. i am not a social engineer - i will leave this type of decision to politicians. but there has been no debate on the government being the PRIMARY lender in the first instance for student loans. wikipedia has a good writeup on this subject: http://en.wikipedia.org/wiki/Student_loans_in_the_United_States

Steven Hansen
Steven Hansen

And I have a similar tale of when I graduated as a young 20 year old engineer and i was placed in a heavy construction organization of high school dropouts. in my case, i grew up in construction so i knew what they knew and i did not. These guys were smart. a few years later when i was a startup engineer on a nuke loaded with even PhD's - the leader was a middle school dropout who Admiral Rick had hand chosen to train his officers. education and knowledge do not have to incubate in a university.


I recently read that 25% of Egypt's 20-somethings pursue post-secondary education in the hope of getting government jobs, but with the rapidly rising population the government cannot absorb all these recently educated young people. I have long suspected that in developed countries like ours the "education-bureaucrat-industrial complex" has been expanding for no other reason than to create make-work public sector jobs for young people, no different than what Egypt is doing. Today's bureaucrat jobs require candidates to have degrees, not because you need 4 years of university to learn how to answer the telephone at the City water and sewer department, but as a way of keeping kids out of the workforce for 4 years then absorbing all those Women's Studies and Art History majors whose education has no practical value at all. There was a time when a liberal arts education prepared young people to take their place in the economic, political and intellectual life of their nation. Education was broad and designed toward instilling an appreciation for the finer fruits of the mind and an understanding of how the world works. The "social" value of this kind of education is that it helped ensure that ignorant dummies did not ascend into leadership positions. Aside from faculties like Medicine and Engineering that taught specific advanced skills toward a specific professional career, a university degree was not a 'ticket' that qualified its holder for a specific kind of job. That was the role of trades schools, which is really where a good many of today's university students belong and where they might be more successful and happier. I worked on some drilling rigs when I was young and some of the smartest, most knowledgeable drillers and rig managers had a Grade 3 education. These guys were competent, confident and made lots of money. "Smart" does not necessarily mean "academic". Nor does academic necessarily mean smart. From 1980 I owned and operated a contracting business (doing stucco work), then after an injury I went back to school in the mid-1990s to finish a BA with a Philosophy major and Political Economy minor (acquiring “academic credentials” toward getting my writing published in the pre-internet era). By the time I finished the degree my injury had healed and I went back to my old business. One of my old customers asked me about my education, so I told him I had a BA in philosophy. He asked, Well, what can you do with that? What does that make you? I told him, It makes me an educated stuccoer. He appreciated my honesty. Unfortunately most of the young people I had gone to school with expected to parlay their economically worthless BA and BSc degrees into some kind of job in their "field". There were about 30,000 students at that school, so there were lots of undergrads in Arts and Sciences programs. Having a degree used to mean that a person was intelligent and persevering enough to belong in the intellectual top 10%, so hiring a university grad meant you were hiring somebody who was smart, able to learn, and used to competing and working hard to succeed. That era is long gone. Employers have cottoned onto the "education inflation" we have now, where pretty much anyone who can come up with the tuition can make it through school and come out with a "degree". The "gatekeeper" function of post-secondary education has been replaced with the toll-collector system. Pay the toll, get your degree. In the 90s I was astonished at the appalling lack of reasoning and writing skills of some of my classmates, who really should never have passed high school let alone been accepted into university. My economic history/policy prof, a guy about my age, confirmed this observation. Sad but true, young people who cannot properly read and write are now walking around with academic 'degrees' looking to inflict their wonderful new skills on real world employers. These kids could have been good as semi-skilled manual workers in assembly factories and similar useful work, but that kind of work has largely been replaced by machines or offshored or is now done by immigrants (the high value-added factory work that remains in OECD countries is high tech and high skill and requires aptitude and training). Instead, our system has deluded them into believing they are highly educated and ready to scale the commanding heights of the "knowledge economy". They come out of school brimful of confidence that they have learned everything there is to know, or at least everything they need to know in order to benevolently rule the world. It is these young world-rulers who are hired as apprentice bureaucrats and who climb the public sector ladder into positions where they regulate and govern us lowly private sector rubes. Of course their inflated self-esteem demands inflated public sector salaries and benefits. So the strategy of sending kids off to 4 years of post-secondary to delay their entry into the workforce to reduce the unemployment numbers produced the unintended consequence of generating millions of no-skill bureaucrats who think they deserve the world for their high-level contributions to society. Now the strategy includes fleecing them for 10s of 1000s of dollars of inflated tuitions for teaching the unnecessary to the incapable. Krugman is right on this one. For very large numbers of today's young people, student debt is not an "investment" in their future earning potential, because their education is not preparing them for the work that will be available to them. We used to say, Too many chiefs, not enough Indians, to describe a scenario where everyone thinks they should be boss. Now it's too many 'educated', not enough productive workers. Everyone wants to get paid for their "education", regardless whether they produce any economic value. Dr. Phil might observe that this is not working out too well for us.


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