Fact Checker: Does federal government profit from student loans as Hillary claims?

Introduction

'I don't believe the federal government should be making a profit off of lending to young people who are borrowing to be able to get their education.”

Source of claim: Hillary Clinton, Democratic candidate for president, in a November TV ad 'Compact.”

Analysis

Clinton's New College Compact would make it so students wouldn't need to borrow to pay for tuition, books and fees at state schools and would help students refinance student loans at lower rates, according to the 30-second ad that aired on Eastern Iowa stations.

Part of the way she would do that, the ad infers, is to stop the federal government from profiting from student loans. Is it true that the government makes money by lending to college students?

Among sources cited by the Clinton campaign is a January 2014 report by the Government Accountability Office, an investigative arm of Congress. The agency estimated the government would generate about $66 billion in subsidy income from student loans taken out in 2007 through 2012, which means the interest students pay would outweigh the costs of servicing the loans.

'However, current estimates for this group of loan cohorts are based predominantly on forecasted cash flow data derived from assumptions about future loan performance,” the report states. 'As more information on actual cash flows for these loans becomes available, subsidy cost estimates will change.”

The GAO forecast, based on assumptions about future economic conditions and default rates, says the government could lower interest rates on the loans, but if the economy goes downhill it could lose money.

Losing money is exactly what the Congressional Budget Office predicted in a May 2014 report. The CBO, a nonpartisan federal agency that provides budget and economic information to Congress, estimated the U.S. Department of Education's four largest student loan programs would cost the government $88 billion from 2015 through 2024.

So how do two credible federal agencies come to such widely divergent predictions?

The GAO uses a budgeting method mandated by Congress in the Federal Credit Reform Act of 1990. In it, the current value of future debt payments by students is calculated against the rates of U.S. Treasury securities with similar terms of maturity.

The fair-value approach used by the CBO bases estimates on market value, which, the agency argues, more fully accounts for the cost of the risks the government takes on by loaning money to students.

Which estimate is better?

'My instinct is to go with the fair-value, or what I would call market value, approach,” said John Solow, a University of Iowa economics professor and department director. 'It includes a risk premium because lending is always risky. The question is how big should the risk premium be?”

If the government didn't guarantee student loans, banks would likely crank up interest rates because of the risk of collecting, Solow said. 'There's an economic problem in lending money where the collateral is someone's brain power,” he said.

Amber Athey of the Heritage Foundation, a conservative think tank, favors fair-value, as does Angry Bear, a well-regarded financial blog.

Conclusion

The Higher Education Act of 1965 helped Americans go to college by guaranteeing student loans. The interest rates students pay to the government are likely lower than what they would pay by borrowing directly from banks.

The GAO says payments to the government will be $66 billion more than the cost of administering the programs, but the agency's accounting method - although mandated by law - may be misleading.

The CBO's fair-value approach, which says the government will lose money by lending to students, is favored by some economists and financial experts.

When Clinton says the federal government is 'making a profit” from students, she seems to be cherry picking data that fits her call for student loan reform. Because of the split sources, we could give Clinton a C, but since several financial experts say the estimates she cites are less accurate, we're going with a D.

CRITERIA

The Fact Checker team checks statements made by an Iowa political candidate/office holder or a national candidate/office holder about Iowa, or in advertisements that appear in our market. Claims must be independently verifiable. We give statements grades from A to F based on accuracy and context.

If you spot a claim you think needs checking, email us at factchecker@thegazette.com.

' This Fact Checker was researched and written by Erin Jordan.