On the heels of yesterday’s post about student loans and their growth. I want you to know that Wall Street is hot on the problem. They’ve made a quiet proposal to the “supercommittee” that’s supposedly addressing government deficits to have the government subsidize the banks via fees without creating any more student loans or taking on any risk. The essence of the whole proposal is to leave the government on the hook for student loans but to use accounting tricks to “take them off the books”. It’s similar to the ways the big banks prior to the crisis would take debt and obligations they had and hide them in “special purpose entities” so they wouldn’t have to show them on their books. There’s no benefit to investors, students, or the government from the proposal. Only the banks benefit. But maybe that’s why they aren’t talking about the proposal in public but instead try to get it passed quietly through lobbyists.
Jason Delisle of New America Foundation’s Higher Ed Watch explains (bold emphases are mine):
The investment banking industry – and its friends in Congress – have cooked up a scheme they are pitching to the “supercommittee” that they say would reduce the federal debt and cut federal spending. Supposedly, the plan would take the government’s $555 billion direct student loan holdings off of its books. In reality, the plan, which would allow the bankers to earn fees on a $555 billion deal, plus $100 billion more every year, would not reduce the debt or cut spending. But that hasn’t stopped Wall Street from trying.
A proposal that could only have been be cooked up by investment bankers is circulating on Capitol Hill. It would refinance the $555 billion direct student loan portfolio with new debt backed 100 percent by the federal government. But this new debt would not be called U.S. Treasury debt, despite the 100 percent guarantee, and therefore not counted as part of the national debt. In other words, the new debt would be used to pay off the old debt (Treasury bonds) that the government issues to finance direct student loans. To be sure, the mechanics of the proposal are more complicated than that, but the effect of the proposal would be to move all outstanding and future student loans from bonds backed 100 percent by taxpayers to another set of bonds backed 100 percent by taxpayers but not counted as part of the national debt. …
The proposal would increase federal spending because the new securities the government would issue to finance direct loans would have higher interest costs than the Treasury bonds they would replace, effectively increasing the cost of every direct loan. Investors would view the new securities as slightly less desirable than Treasuries (even though they still carry a 100 percent guarantee from the federal government) because they will not be as liquid (easily bought and sold among investors). The new securities would also be subject to prepayment risk…Then there are the fees that the government would have to pay to investment banks (the “syndicate of underwriters”) to put the new securities on the market each year. Those fees could cost taxpayers tens or even hundreds of millions of dollars every year.
Apparently the supporters of the proposal claim that it would “diversify funding sources”. In other words, if someday, somehow, some investors wouldn’t want to buy U.S. Treasury bonds (something is emphatically NOT happening now since interest rates are at record lows), then maybe they might be interested in something that’s backed by the U.S. but isn’t called a Treasury bond. In other words, there’s a slight chance that pigs might someday fly away from the farm so let’s have a bunch of hogs that well call “pink cows”. Jason speaking again:
Some members of Congress – particularly Republicans – would simply feel better if the direct loan program were funded with “private capital” rather than U.S. Treasury bonds….[but] the securities would be sold in the same markets as Treasury bonds and the capital raised to finance direct student loans would be no more or less “private” than it was before.
If the Wall Street proposal to refinance direct student loans doesn’t actually reduce the debt, increases the federal budget deficit, and doesn’t make the program’s financing any more dependent on the private market than it already is, what does it do? It effectively addresses what some see as the direct loan program’s biggest shortcoming; it doesn’t allow Wall Street to make a ton of money off of it.
So Wall Street wants to do to student loans what it’s done to home mortgage finance. Have somebody else, such as the federal government, guarantee that they cannot lose any money. Then, they want to bundle them and re-sell them solely for the purposes of making more fees – just like they did with mortgage-backed securities and credit default swaps and other derivatives. If I recall correctly, that didn’t really work out too well now did it? Well it worked out for the banks, but not for the rest of us.