Cannibalizing Our Young
There's a recurrent theme in which a society, facing defeat, responds by using its youngsters - the seed corn - as a means of keeping itself alive. Whether it's the Germans in World War II or the Confederacy after 1864, the image is one of teens and children sent to the front line to stave off an inevitable defeat. This is recently brought to mind as separate sources converged to illustrate that our present financial system is facing the destruction of its profitable bubble model as it now extends faux-friendly credit to the young and then feasts on them when they cannot repay.
The first source was a brief Fitch Ratings release that discussed the safety of Asset-Backed Securities composed of student loans. The size of the student loan pool is now greater than auto notes and credit cards and is in the vicinity of $1 Trillion and according to the Federal Reserve Bank of New York, approximately 27% of these loans - more than a quarter of a trillion dollars - are now more than 30 days past due. Of this amount, more than $67 Billion in student loans are more than 270 days in arrears, which is a technical default. Student loan backed ABS products are no different from their well-known cousin, the Mortgage Backed Securities products in that the cash flow stems from the cumulative payments of all of the borrowers as they repay their loans. Like the MBS however, there was a glut of lax loans made and more are now in default. The bulk of the poor lending was done by the for-profit institutions whose admissions and financial aid people directed prospective students into taking on excessive loans and several years later, with the education finished and insufficient income, the student borrowers are going into default. The for-profit colleges, such as Phoenix, made money while the students are held to account. For the record, the graduation rate at the for-profits is 22%, less than half of that for public universities.
Fitch's good news however, is that the ABS are relatively safe for two reasons. First, the products were structured in a better fashion with greater contractual protection. Second, the Federal government is backing the loans in multiple ABS via the FFELP (Family Federal Education Loan Program), under which the large majority of the loans were written. This is great for the owners of the ABS, which happen to be almost entirely corporations and financial institutions. For the actual individuals in the picture - those who are carrying the defaulting loans - it isn't great as the Federal government expects to get the money back. Corporations profit (for the win again!) as the US Department of Education is shelling out more than $1 billion in commissions to private contractors to collect on the deficient loans. Naturally, these contractors are wholly-owned subsidiaries of such stalwarts as JPM and Sallie Mae. One of the most glaring comments in the article was that a person in arrears on both taxes and student debt found the IRS to be more compassionate and willing to consider alternatives than the student debt collector; the IRS handles its collections issues internally.
The collections issue stems from the high-pressure methods and threats used on the individuals. Bloomberg personalizes its story by focusing on a person in default, a disabled man who is 52 years of age; but the reality is that most of the students in default, of whom there are more than 5 million, are young adults. These are not the life-experienced, uber-organized seniors but that group of adults with the least experience and cohesiveness; these are the adults with the fewest self-sufficient job opportunities and yet will be hounded into their adult years. Their lives will be dogged and their ability to form households, which is crucial to any true recovery in the housing/construction sector, will be crippled for years to come as their meager financial resources are stripped.
People should be responsible for their debts. But there is a systemic aspect here as those who are least experienced and able to evaluate the alternatives are most pressed to take on debt to better themselves and prepare for their future. When the debt is incurred and the kids are into the world - without the opportunities available to previous generations - the pressure is on to honor the debt payments regardless of their circumstances and ability to pay. The individuals will be hounded and threatened, while the entities which do the hounding are part of a group which increasingly ignores its own contractual obligations, dragging out payments, ignoring deadlines and gaming the system in any way to further their own fortunes at the expense of the whole.
In permitting a system to enslave and wreck the lives of a large segment of our young, we're cutting off our own national future. We've allowed a system to develop that is cannibalizing society's future productive members, harnessing them to debts that will take years to satisfy and barring their ability to create their own households and families, the things that are crucial to the vitality of our country. The combination of expensive higher education and harsh debt is certainly profitable in the moment. But it's continuance will prove to be its own destruction as fewer are able to participate and the weight of the process will collapse. If we permit the present system to eat our young now, there won't be enough productive members - or opportunities - to support a vibrant society and economy in the future.
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