We are in something of a crisis, although a frequently overblown one, when it comes to student loan debt. I have written at great length about ways both to lower the cost of college and to help those who are struggling under the weight of student loan debt. However, I firmly believe that this problem needs to be understood as a humanitarian one which has the chief problem of hurting people who don’t have to be hurt, and not as an asset bubble which could cause ripple effects that sink the rest of the economy.
I think the urge to call a student loan debt bubble is based on multiple factors. First, we have bubbles on the brain, for obvious reasons, and calling bubbles has become a hallmark of lazy journalism and commentary. Second, this is a favored argument of conservatives, and libertarians, who don’t like government subsidizing education and largely hate the professoriate and dislike what they perceive to be the politics of the university system. Finally, you get it from Gawker, which is always eager to call other people chumps, as part of its basic financial model which trades stroking its readership for clicks.
What contributes to conventional asset bubbles, whether they be in condos or tulips or stocks? There’s a few key factors that don’t apply at all to student loan debt. Assets in typical asset bubbles are transferable and they are appreciable and they are held by private entities.
Take the housing bubble. It’s the go-go 2000s. Financialization has attracted a massive amount of investment capital. Why? Because rates of return are so high. Why? Because you can speculate, in part. What can you speculate on? You can speculate on assets that can appreciate and that can be transferred. So take a house and a mortgage. I’m Joe SubPrime. I want to buy a house. The mortgage company is hungry for more business, as is the bank that buys the loan as part of a big CDO, as is the hedge fund that wants to make bets about the value of that CDO. Everybody wants me to get the house, so I do. Being SubPrime, I can’t actually afford to pay the mortgage. But, crucially, the mortgage is backed by the collateral of the house, an asset which can appreciate itself. There is a value to the collateral, in other words, that is independent of the value of the loan. This is supposed to make mortgages safer for the banks than unsecured debt like credit card or student loan debt, where the only enforcement mechanism is the negative impact on a borrower’s credit report.
But, as we know, in practice the collateral of the physical property made mortgages far riskier. Because the value of the real estate kept going up, borrowers could keep refinancing their loans (and often, their lifestyles). And in the event that someone did default, the banks could take their real estate at a time when that was a valuable asset. Everything was groovy, save for those poor squares who got predatory loans they couldn’t afford, as long as everybody believed that housing values could only go up. For as long as housing prices were rising, the bubble expanded and expanded and expanded….
That, really, is the fundamental bubble mechanism that cause the financial crisis, the (bizarre in hindsight) conventional wisdom that housing prices couldn’t go down. Once it became clear that housing was overvalued in some places, it punctured the market and brought prices down almost everywhere. That meant that individual borrowers now couldn’t refinance to stay ahead of their payments, which led them to default, which pumped the now-cratering housing market full of foreclosures, left in the hands of banks who couldn’t sell them and who suddenly had previously-valuable CDO assets reduced to nothing, causing banks to approach failure, forcing them to discontinue their normal operations like lending to businesses, which forced those businesses to downsize dramatically or fold altogether, sending millions into the job market and dramatically slowing the growth of our economy.
The basic mechanism, in all of this, was based on the misconception that the collateral associated with the mortgages could not depreciate. In other words, the housing bubble was just that, a bubble in housing and not in mortgages.