It’s easy to understand why James Runcie, the official responsible for the U.S. government’s $1.4 trillion student loan portfolio, chose to resign rather than testify before Congress about mismanagement of the program, which is a failure on many fronts.

Student loan programs do not provide incentives for colleges to prepare students for careers. They too often fail to deny loans for schools with poor default records. They’ve increased college tuitions. As a result, default rates are staggering.

Many studies report the rate of student loan default — 360 days without payments — at around 11 percent. But that number is much higher if you disregard payment delays allowed by the government. Then, about one in every four borrowers would be either delinquent or in default, according to U.S. Department of Education data.

Defaults on existing loans will cost the government more than $170 billion under the Congressional Budget Office’s fair-value estimate. That’s not counting additional losses on the $1.1 trillion expected to be loaned to students over the next 10 years.

The $1.4 trillion in current student loans, owed by more than 41 million Americans, is 10.6 percent of all consumer debt — the highest amount except for mortgages. It is a drag on the economy because it prevents many from buying homes and big-ticket consumer items, which are important engines of GDP growth.

The high default rate is mostly a reflection of schools’ failures to prepare their students for jobs, particularly those that need filling. According to the National Center for Education Statistics, the default rate for students that don’t graduate is 69.2 percent while it is only 1.1 percent for students that achieve a bachelor’s degree, 2.4 percent for an associate degree and 24.7 percent for students receiving a certificate.

A survey of employers by iCIMS Inc., a recruiting software company, found that class of 2017 college graduates are ill-prepared for the job market. Employers lamented that one-third of applicants surveyed for entry-level jobs are unqualified and that fewer than half of the students majored in subjects for which there were job openings, such as engineering, business and computer science.

The student loan program contributes heavily to the high cost of tuition. As former Secretary of Education Bill Bennett, wrote “If anything, increases in financial aid in recent years have enabled colleges and universities blithely to raise their tuitions.”

Officials at the Federal Reserve Bank of New York backed up the so-called “Bennett hypothesis” in a recent report which found a pass-through effect whereby 60 percent of subsidized student loans went to increase tuition and a similar but smaller effect for unsubsidized federal loans. “[Student loan] credit expansion will raise tuition paid by all students, not just students borrowing at the federal loan caps,” the report notes. “Tuition effects will be larger at schools serving a more credit-constrained population.”

In short, the student loan system is broken, and the effects are perverse. Although the White House budget proposes changes to student loan programs, it doesn’t reflect or address many of the problems. But there’s a way to solve them.

Under federal law, the Department of Education can deny students access to loans for schools with default rates higher than 30 percent for three years in a row or 40 percent in one year. But the agency frequently adjusts default rates in one of those years so schools can avoid the loss of federal funding.

From 2001 through 2015, at least half of all students in 108 four-year colleges hadn’t paid even $1 of what they owed three years after leaving college, but they received more than $10 billion in federal student loans and grants.

The threshold default rates for access to federal funding should be lowered and more strictly enforced, and the Department of Education should more regularly and consistently deny loans for schools that fall short of the new thresholds.

Some are concerned that more loan denials would cause schools to close and reduce graduation rates. But the National Bureau of Economic Research found that students whose schools closed generally enrolled in less expensive alternatives, such as community colleges. It estimated 70 percent of the students who stopped borrowing because they switched schools would have defaulted on their loans if they stayed at their prior school.

Strictly enforcing lower default thresholds would produce better outcomes on all fronts: schools would create curricula more relevant to jobs that are available. Tuition costs would fall as the expansion of credit slows. Losses on student loans would decline, and so would the youth unemployment rate.

Source: The Hill