How U.S. student-loan rates are still challenging Congress

Senate Health, Education, Labor and Pension Committee Chairman Sen. Tom Harkin, D-Iowa, left, standing with Sen. Jack Reed, D-R.I., discusses a graph and legislation to try and prevent the increase in the interest rates on some student loans, Thursday, June 27, 2013, during a news conference on Capitol Hill in Washington. (AP Photo/Susan Walsh)
Senate Health, Education, Labor and Pension Committee Chairman Sen. Tom Harkin, D-Iowa, left, standing with Sen. Jack Reed, D-R.I., discusses a graph and legislation to try and prevent the increase in the interest rates on some student loans, Thursday, June 27, 2013, during a news conference on Capitol Hill in Washington. (AP Photo/Susan Walsh)
Posted: July 08, 2013

On July 1, the rate of a subsidized Stafford student loan doubled to 6.8 percent from 3.4 percent, after Congress shut down for the Independence Day holiday without blocking a scheduled increase. If lawmakers fail to reach a retroactive agreement, the average Stafford borrower will have to pay back about $800 more than under the previous rate for every year of loans.

The controversy in Congress reflects the magnitude of the challenge. Today, about 66 percent of students borrow for college. For the 2011-12 school year, 10.4 million borrowers took out $85.9 billion in Stafford loans, averaging about $8,200 apiece.

In 1950, 5 percent of Americans age 25 or older held bachelor's degrees. Today, 31 percent do. This explosion in attendance is one factor behind rising tuition and related expenses. The supply of university slots has increased, but not enough to meet demand.

Those higher costs required new ways of paying for postsecondary education. The federal government began its programs in 1958 through the National Defense Education Act. That measure established what would become Perkins loans, a need-based system that pinned rates at 5 percent and provided affordable loans to veterans and other eligible students.

In 1965, the Higher Education Act allowed the federal government to offer additional assistance through the Federal Family Education Loan Program. It expanded Perkins loans and introduced Stafford loans that were guaranteed by the federal government, which paid the interest that accrued during college and the difference between a set low rate and the market rate after graduation - the subsidy in today's version of subsidized Stafford loans.

The government later invited private companies to service and originate these loans. In 1972, it reauthorized the Higher Education Act and created the government-sponsored Student Loan Marketing Association, now known as Sallie Mae.

In the late 1980s, members of Congress and the Education Department pushed for a system under which the government would originate and service student loans, to eliminate the expense of the fees private lenders charged students.

President Bill Clinton signed the Federal Direct Loan Program into law in 1993, requiring the federal government to originate the loans. However, the next year, Congress enacted a law that did not require all loans to originate through the Federal Direct Loan Program.

Many students did not pursue the program's financing because heavy lobbying and marketing by private lenders succeeded in perpetuating the old system of using government-sponsored enterprises and private creditors to service government-secured loans.

In 2010, the federal government passed the Health Care and Education Reconciliation Act, which made the Federal Direct Loan Program the only government-backed one, eliminating the Federal Family Education Loan Program. The federal lender and students could save the money going to the government-sponsored enterprises, about $6 billion a year.

For most of the last 60 years, all lenders tied student-loan interest rates to the prime rate or the 10-year Treasury yield. In 2007, Congress passed the College Cost Reduction and Access Act to temporarily lower rates. It eliminated the variable rates of Stafford loans and, instead, set unsubsidized loans at 6.8 percent and subsidized loans at a lower, somewhat-variable rate.

Before it left town this summer, Congress was unable to reach agreement on competing plans to continue the reductions by tying subsidized rates to the 10-year Treasury rate. Some Democrats opposed an approach backed by Sen. Joe Manchin (D., W.Va.) and House Republicans, partly because it would not cap rates on individual loans. Instead, it let them float, like adjustable mortgages, with a minimum of about 5 percent and a ceiling of about 8 percent.

From the mid-1990s to 2007, student rates were set somewhere between half a point and 1 percentage point below the prime rate, currently 3.25 percent. This generally gave students higher rates than the 10-year Treasury, now about 2.5 percent.

That means neither of the plans represents a radical departure from past practice. The real question is whether there is something different about today's environment that warrants ending 60 years of low student-loan rates. College is certainly more expensive. More people are determined to attend, and many don't have the resources to pay on their own. The government has already bought into the idea that a college education is central to the American dream. Now it must decide how much students should pay for it.


Lawrence Bowdish, an adjunct professor of history at American Military University, has written on student loans and on consumer credit.

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