Practical Dad

If Inflation Really Takes Off, Should I Max Out The College Debt?

As Eldest is within spitting distance of the college experience, she faces the same issue as hundreds of thousands of other students:  how much debt should she take on?  And if things are inflationary, shouldn't she absolutely take the maximum amount of debt possible?

There are certain general rules of economic behavior that pertain to specific situations and that includes living in an inflationary environment.  But you have to really think through the circumstances to ascertain if those rules continue to apply to the situation in which you find yourself.  One of the precepts of inflation is that a future dollar is worth less than a present dollar because it will only be able to purchase X amount less than could be purchased today.  The upshot is that inflation truly favors debtors; The debt to be repaid is a nominal amount, say $20,000, and that figure doesn't take into account whether that nominal $20K can only purchase what $15K could purchase now.  The other aspect is that in an inflationary environment, wages are expected to rise as well - even if not at the exact same rate - to offset the price rises.  People are paid commensurately more and thus pay off the nominal with devalued currency.

What do you think is the goal of the US Treasury and Federal Reserve System with all of the Quantitative Easing?  Do you really believe that the United States can pay off a $14+ Trillion national debt?  Spur inflation, spur spending and hope - pray - that the executive and legislative branches get a handle on the spending to stop the flow into the debt bucket while the dollar is trashed.

I guarantee you that somewhere out there, some expert will recommend that with an inflationary environment, prospective students and their families should take the leap and incur the maximum amount of debt to pay for college.  The thinking will be that the competitive edge is so keen that a college degree will be painted as the sole hope of making way in the world and that it's the obligation of families to support their youngsters - and the youngsters make a significant investment in themselves - and spend whatever's necessary to obtain that degree.  It would be a great time to take on the debt since it could be paid off in devalued dollars; this would be - per experts - a true value play for the upcoming generation.  Were this to be suggested as expert advice, I have no doubt that some would go ahead and run up the debt even more.

But does that thinking really hold water in these circumstances?

No, and here's why.  First, the presumption is that wages would naturally rise following an inflationary surge.  The reality is that our real wages and incomes have actually dropped in the past number of years as our high-value jobs have been increasingly outsourced to countries with significantly lower labor costs.  As these changes happen, the aggregate effect is that less and less true productive wealth is supporting the wages earned via the service industries with a resulting loss of aggregate income.  One of the problems that American businesses are facing now is that the American consumer is so wage hamstrung and debt-laden that they're unable to effectively pass along many price increases that they're having to absorb from their own suppliers.  There is simply nothing to demonstrate - absent a wholesale mass-mailing of stimulus checks to consumers - that wages will simply, suddenly turn around and begin rising.

Second, consider the present nature of the student debt.  There'll be greater push for incurring increased debt but is there going to be a concurrent change in the student loan model to ease the burden of that increased debt?  Student debt, as I've written before, is far more toxic than any other debt since it can never be discharged in bankruptcy should things really go south for that particular student.  He or she can take the credit hit in exchange for erasure of mortgage and credit card debt, auto loans, and whatever else.  But the student debt will have to be repaid, even at the cost of that individual's future.  Consider this:  Sallie Mae, the principal student lender, is a privatised GSE - just like Fannie Mae and Freddie Mac - and exists solely to serve the student debt market.  As of last year, student debt surpassed consumer credit and was second only to home loans in dollar terms.  Sallie Mae is aware of this and while they spent $3.4 million on lobbying in 2008, they revved the lobbying engines and spent more than half as much - $1.86 million - in the first quarter of 2010 alone.  This rise occurred as the Federal government considered legislation that would remove privatised student lending and the rise in lobbying to prevent shows where Sallie Mae places her emphasis.

Third, what if the dollar really does tank and hyperinflation ruins the currency?  In that unlikely event, a $120K student debt could conceivably be repaid by three days wages.  But food and other essentials would be equally expensive and lay claim to those three days wages.  Gee, do I eat and house and feed the kids or pay my student loan?  The contract however, would still remain in effect and I fully expect that once things stabilized - in whatever form - that the lenders would still demand repayment of their debts in the new dollar equivalent.  The currency is ruined, but the contract is not, and again, the law would still stipulate that student debt was non-dischargeable. 

The reality is that we, the individuals, presently exist to serve the needs of the corporations and by extension, their shareholders and management.  There is simply too much wealth and power at stake for these few to readily accede to the common good and change in such a way that diminishes that wealth and power. 

Will these things actually come to pass?  I hope not.  But if they should, expect that experts will begin plying the airwaves and internet with advice about the relationship between inflation and debt.  And when you hear them, ask them whether the other aspects of debt have changed in any material way as to repayment, terms or forgiveness.  Otherwise, chalk it up as more self-serving white noise.

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