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A Necessary Delusion - Shadow Hand

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Time, Place, and Manner

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The Definition of Insanity

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You know the opener to this one. I flip off the stock line, "The definition of insanity is doing the same thing over and over again and expecting a different result." It's the kind of cliche set-up hacks like Maureen Dowd and David Brooks use in every other column.

But you know what? Sometimes the easiest opener is the best one. Sometimes, it just fits. And this is one of those times.

If you've been following the news on the student loan bubble (unless you're in the education business, it's not a bubble so much as a slow-moving economic train wreck... but that's another issue, for another piece), you've read about Obama and the GOP using a scheduled hike in student loan interest rates as a political football. The maneuvering done by both parties is typical, cynical, and irrelevant. The only important fact is, both parties agree, interest rates on government-backed student loans should be artificially depressed. They should not be allowed to rise, even in a climate where borrowers represent increasingly higher risks.

This is nuts.

Consider why so many student loans are in default today. First, the cost of higher education has exploded. Why? Because a third party payer with seemingly indefatigable funds has been introduced into the marketplace. Loads of cheap government-backed money flooding into any market leads to - wait for the drum roll - inflation. A shocking revelation, I know... See also: Health care. Second, students are among the least sophisticated borrowers alive. Few, if any, understand the gravity of the decision they're making. All they see is zeros on a loan agreement they'll have to pay someday far off in the future. Hence, hundreds of billions of dollars spent on training for yesterday's careers, masters degrees in social work and dance theory, and J.D.s from St. Eustasia's Upstairs College of Law and Podiatry.

As it is in health care, it is in education. Allow a third party to step in and take over the payment obligation - removing the "pain" of the transaction, in which the purchaser trades his actual dollars for the thing acquired - and costs will skyrocket. The provider will maximize his take from the revenue stream without having to justify cost increases to the consumer, who doesn't see them. And the consumer, armed with wads of low interest dollars, will maximize his purchasing power. A semester at sea? It's only another $15k... Why not?

You don't fix this by further shielding the consumer from the pain of the transaction. And you sure as hell don't cure it by ensuring the cheap money trough remains awash with feed for opportunistic diploma salesmen. This only makes the problem more acute.

The better course - the only sensible one - is to not only allow, but encourage, rates to climb. Let Uncle Sam set fair interest for his risk. And if borrowing costs rocket skyward as a result? Excellent. That's exactly what we want.

No, this is not counterintuitive. Consider housing. Why didn't house prices collapse as much as they should have in the sort of depression we've been experiencing? Why are so many would be buyers still priced out? Because the Fed stepped in and propped the market with extended low interest rates, Uncle Sam offered credits to new home buyers, and the FHA made loans to anyone with a heart rate. The Government kept the cheap money spigots open. Without those measures, housing would have fallen an additional twenty percent. And that's being conservative.

It's a basic law of economics - there's an inverse relationship between borrowing costs and asset prices. Right now, education is grossly overpriced. The market's been perverted to absurdity and needs to be brought back into alignment with economic realities. This requires something in the area of a thirty to forty percent decrease in the cost of a college education. That will not be achieved by any means other than cutting off the cheap government backed cash pouring into schools. And that will only occur by reintroducing pain at the point of purchase - forcing the borrower to reconsider whether signing onto a 15% note to cover a $120,000.00 Political Science degree is worth it.

Four or five years of 15% rates on government-backed student loans would start the contraction in higher education costs we desperately need. It would also force borrowers to make smarter decisions. The only problem is, like any other long term solution, it requires us to think long term. And it gores many oxen. Academe would be incensed, as would investors in for-profit McColleges. Unsophisticated students who don't understand the aim of such a plan would be enraged. The Establishment would surely counter, "We need more education to be competitive, not less!," as though cost-cutting and quality are mutually exclusive.

Therein lies the proverbial rub - the pernicious human elements that stymie all intelligent solutions: Greed, Self-Preservation, and a Gullible Public. Keeping a failed policy in place to protect its well-connected beneficiaries; selling the decision to do so with the sophistry, "Status quo is always the best possible circumstance..." Unquestionably, however much sense it makes to allow rates to spike, and however economically justified it might be, the vested interests in this distorted market would label such a plan insane.

And so, as eloquently as anyone might advocate the blunt suggestion I've offered here, there's a snowball's chance in Fukushima Reactor Four of it ever coming to pass. Our eminently sane educators and policymakers would argue to the eternally lucid thinkers of the general borrowing public, successfully, that the solution to higher education debt is continuing to do what we have been - keeping interest rates as low as possible. Sooner or later, if we just do it enough, it's bound to work.

[Read more from The Philadelphia Lawyer]

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