The student debt domino effect: The CFPB’s Rohit Chopra on how it’s holding back our economy

On Monday, President Obama signed an executive order to help tackle America's growing student debt burden, a measure aimed at lowering students' loan payments.

But, as my colleague Kate Zezima reports, options to lower monthly payments are already available to most student borrowers through income-based repayment programs. Many millions of Americans may be unaware that these options are currently available to them. 

President Obama's measure -- and a related bill from Sen. Elizabeth Warren (D-Mass) -- comes amid increasingly frequent warnings about America's record $1.2 trillion student loan debt load, an amount that roughly tripled between 2004-2012, the NY Fed reports. Average debt per borrower increased increased by 70% during that time to hit about $25,000. 

I sat down with Rohit Chopra, an assistant director at the Consumer Financial Protection Bureau, who heads the agency's efforts on helping young Americans. (You can read Chopra's Congressional testimony from last week here.) Chopra's been one of the leading voices among a growing chorus of policymakers and industry leaders who've warned about America's student debt problem.

I spoke to Chopra about the bureau's work to help students, the looming student debt issue, why students haven't been enrolling in income-based repayment plans, and the polices that can help younger Americans. 

Last week, you testified in front of Congress and repeated and amplified some of the warnings you and the CFPB have been issuing in past few  years. But what’s the broader problem here in student debt and the economy?

When the recession began to unfold there was a lot of attention focused on the impact of the mortgage market on the rest of the economy. But while that was happening, there were a lot of students in school, and while they were in school, many of them saw their family’s home plummet in value, or they saw a parent become unemployed, and their state budgets were cut which led to tuition increases, and a lot of those forces led those students to borrow much more than they had in the past.

In particular, many families couldn't really contribute what they aspired to for their child’s education so the students themselves had to borrow a lot to pay. And now that all of those graduates are in the workforce, they have a lot more debt , but they are not earning much more than previous students who had much less debt. So all of that means higher debt relative to income [DTI], and that has significant impact on how many people manage the own budgets. It can mean the difference between being able to save for retirement, being able to buy a car, or being able to start a family

You talk about this generation of student debt borrowers being different, but how does that affect their consumer choices? How are these debt levels affecting the overall economy?

We still need much more data, and that is a huge issue in the student loan market is a lack of transparency about really what is happening. But some of the statistics reveal that, unlike in the past, those with student debt tended to be higher income, and therefore more likely to have a mortgage. We’ve seen in recent years that that trend has reversed, that having student loan debt is no longer the marker of wealth, or expected wealth as it used to be. And instead it might actually be a barrier.

There’s a lot of talk about the college wage premium -- that is, the difference in starting wages between a college graduate and a non-college graduate. And that number has been growing significantly over time. But behind that trend line is something quite worrisome. The growth in the college wage premium is almost fully explained by the decline in the real wages for non-college graduates. In other words tuition is going up, debt is going up, but in terms of wages for college graduates, we haven’t really seen an increase. And the combination of the two worries many people, not only in the financial industry but in the housing industry, the auto sector, and many other parts of the economy

In your Congressional testimony last week you had a really long list of those people who have warned on this: The Fed, Treasury sec Jack Lew, automakers, members of the banking industry, mortgage bankers, realtors, BlackRock and policymakers. But what specifically do we know exactly about how student loans are hurting the economy?

The key is DTI [debt-to-income ratios]. As debt has gone up, incomes for college graduates have remained flat or gone down. There are a few effects of this: one is that it’s hurt the general ability to take on mortgage credit and other types of loans, and we see also increase in delinquency and default levels. There are now 7 million Americans in default on a student loan, and the combination of higher DTI [debt-to-income levels] and damaged credit is a recipe for a challenging path forward for young people who are looking to borrow or invest.

One of the ways that policymakers have taken to deal with this, is income-based repayment, in which student loan payments are tied to a person’s income. Obama’s new executive order tries to expand that program. But why have we seen so few people sign up for these income-based repayment plans?

I wish knew the exact answer to that. But we do have some lessons from the mortgage market. In many cases, there were borrowers who could have qualified for a prime mortgage, but had a subprime mortgage. Or in many cases borrowers qualified for some sort of loan modification program, but found themselves in foreclosure. The vast majority of the 7 million borrowers in default on a student loan could have avoided it through enrolling in a loan modification program like income-based repayment.

What we saw in the mortgage market was that the servicers, the companies that collect payments from borrowers, didn’t necessarily have the incentive to modify a mortgage. What may have been good for the investor, and may have been good for the borrower sometimes didn’t happen. And I’m very concerned that student loan servicers may not have that incentive to help a borrower avoid default.

That brings us to Obama’s new student loan push, which also is aimed at changing the incentives for servicing industry. How does one go about changing those incentives?

Servicing is a tricky business because their customer is not the borrower. The servicer's customer is the investor or the owner of the loans. So designing and aligning the incentives between the servicer and the borrower and the investor is very challenging. As it relates to loan modifications, many servicers complain that they just didn’t anticipate that there would be so much need for borrowers to enroll in these programs and may unwilling to invest resources in order to serve those borrowers. There's many different ways to compensate servicers, and I think we’ll see in the coming months how that plays out and whether that impacts total enrollment in these loan modification programs.

You mentioned that some majority of those 7 million borrowers who were in default could have avoided that through some form of income-based repayment plan. Incenting servicers is one way of fixing this. Another way is educating borrowers that income-based repayment servicers are available. How has your agency done this?

Well we have a number of consumer tools that tens of thousands of borrowers have used to navigate what feels like a complex and confusing system. I am more concerned about borrowers who know these options exist and have a difficult time enrolling. And I think there is a very large portion of borrowers who are seeking help and may not be getting accurate information at all times. In some cases, there may not even be options for them. For many borrowers with private student loans, they may be out of options. And we’ve been looking for ways to identify policies and work with industry to create options for those borrowers.

Is part of the problem identifying who is eligible for income-based repayment? Is it a data problem?

I think data is a huge problem. We do not know specifically whose income is low enough such that they would benefit from this program. We can all develop estimates, but income-based repayment is a great way to manage your debt-to-income ratio and when you are really in a tough spot, you can avoid default.

But for lots of borrowers they are still struggling with high debt burdens, even though they might appear to be making a comfortable income.

One quote from your recent testimony struck me as interesting, you talked about resisting the temptation to address the student loan market just through education policy. You suggested that the student loan market needed attention from a “financial services lens”. What did you mean by that?

I think there is an instinct to address student debt concerns largely through addressing the drivers of the costs of college. It is very worthwhile to take steps so that the class of 2018 and 2019 do not end up with a mountain of debt. However, we cannot ignore that class of 2008 and 2009, and others like them. When they started college, the economy was doing just fine. Jobs were plentiful for new college graduates, but by the time they graduated the entire world had changed and many of us are worried that they may never catch up unless they can deal with their debt.

About a year ago, you mentioned that some of the monetary policy could be possibly be reevaluated given the fact that student loan borrowers hadn’t necessarily received the full benefit of their low interest rate policies. Do you think that’s still the case? 

I wouldn’t characterize it as exactly that. I would say that homeowners and governments and the corporate sector have certainly benefits from the lower interest rate environment since they've been able to reduce their debt burdens through locking in lower interest rates. For young people, the biggest portion of their debt is student loans. They generally don’t have many options to take out a new loan at a lower rate, and at the same time, many of them are at a prime home-buying age and property values have been rising, some believe because of the low-interest rate environment, it now feels like home ownership is even farther out of reach.

That brings us to a bill that was put for by Sen. Elizabeth Warren and President Obama has backed it. Are there enough refinancing options for student borrowers right now, and if not how come?

Well, the CFPB published a report last may that discussed last May how to jump start more loan modification and refinance options specifically for private student loan borrowers. When you start school and take out a loan, there’s a risk that you may not graduate, that you may not get a job. And so a loan in the private market is priced accordingly. But many borrowers do jump over those hurdles and are often frustrated that they cannot find a lower rate. So I think we’re going to see the market continue to evolve. We’ve seen more financial institutions and startups offering products and we’ll see how that plays out. There’s no question that there’s a desire among many borrowers to [refinance].

So the idea is that there’s a market need to be filled there?

That’s what many market participants think. And we’ll see how it plays out.

Finally, is there anything that student borrowers need to know about what you guys are doing to give them more information or better data?

One, for existing borrowers, the CFPB is taking steps to make sure that student loan servicers are following the law. We referred a number of complaints to other regulators, which led to nearly $100 million in restitution and penalties assessed on Sallie Mae, and we will continue to be vigilant to make sure that the law is being followed

As it relates to data, we are so far behind, compared to the mortgage market, and that adds a lot of uncertainty to how it it might the economy and what are surgical tools we can use to insulate any damage. That is something we need to fix.

 

Ryan McCarthy is the assistant business editor for The Washington Post. He oversees Storyline, Wonkblog and other digital projects.
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