A Lurking Bailout

Published August 21, 2008

The student loan industry lies at a crossroads. Sinking profits from weakening credit and securities markets have led many major private student loan lenders to be more judicious with their resources. This has shifted a greater burden on public lenders like Sallie Mae, which is already overburdened with existing federally backed loans. The federal government recently removed many of the incentives it once provided to entice lenders to participate in the federal student loan program, citing the rising costs of the subsidies.

Some observers are suggesting the student loan “crisis” is an attempt by lenders to restore those subsidies. According to CNN, Sallie Mae spent more than $640,000 lobbying for government intervention in the student loan industry in the second quarter of 2008.

It is easy to attempt to solve a problem by throwing more money at it, but rarely is that the right solution. Unfortunately the government is taking just that approach: Under a new federal loan stabilization program, the Department of Education has sent new funding to Sallie Mae in the form of a loan to provide up to $20 billion in new government-backed loans this year.

The student loan industry’s reliance on government aid ultimately encourages poor spending habits, stifles financial innovation, and discourages prudent long-term saving by students and their parents. These subsidies distort the market and raise prices across the board. Trimming them back would allow free-market forces to take hold, encouraging competition. Greater competition would lead to a wider range of product at lower prices.

Matthew Glans ([email protected]) is a legislative specialist for The Heartland Institute.