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Credit Crisis Shakes Confidence In Student Loans

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Credit Crisis Shakes Confidence In Student Loans


Credit Crisis Shakes Confidence In Student Loans

Credit Crisis Shakes Confidence In Student Loans

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  • <iframe src="" width="100%" height="290" frameborder="0" scrolling="no" title="NPR embedded audio player">
  • Transcript

For decades, the federal student loan program has helped tens of millions of students pay for college. For private lenders, issuing government-backed loans has been risk-free and profitable. For families, the program has been a stable and reliable source of money.

But with the economy in a downward spiral, lenders have been pulling out. Funding for new loans has dried up, and public confidence in the program seems shaky for the first time.

Since its creation in 1965, some experts in the banking industry have called the federal student loan program the most successful public-private partnership ever created. Until now.

"What the future is going to be is questionable," says Harrison Wadsworth, special counsel to the Consumer Bankers Association. "Lenders have pulled out. Some of them won't come back."

He says the student loan market's unraveling over the last few months has been stunning.

Legislation Blamed For Cutting Lenders' Profits

Wadsworth says the problems actually began last September, when Congress passed the College Cost Reduction and Access Act. It made more financial aid available to the neediest students and lowered the interest rates for new borrowers.

It paid for all this by cutting the interest that banks and private lenders earn on every student loan they make. Wadsworth says it also doubled the fees that lenders pay the federal government for every loan they issue.

"It became less profitable — or in some cases unprofitable — for lenders to lend money," he says.

Lawmakers defended the act, arguing that they were more concerned about students than lenders' profits. Then the subprime mortgage crisis hit.

"The financial markets went into turmoil and that had a spillover effect into student loans," Wadsworth says.

By the end of 2007, he says, lenders could not raise the money to make new loans. And those that could quickly realized that the costs of making those loans had gone up dramatically. So some lenders stopped making loans.

Liquidity Dries Up

Larry Warder, chief financial officer at the U.S. Department of Education, says that's when he started getting calls warning him there was trouble on the horizon.

"Some of the lenders came to us as early as January and said, 'We have liquidity problems. Profitability has been crunched, but our problem is we don't have access to capital,'" he says.

Lenders needed cash fast and they wanted the federal government to provide it. In late April, Congress complied. With little or no debate, lawmakers passed emergency legislation increasing the amount of money students could borrow but also authorizing the Education Department to buy up government-subsidized loans from lenders.

The idea, Warder says, was that lenders would not get stuck with loans they couldn't sell or raise money for.

"They have the liquidity to get to the point where either the markets have corrected and they can do the normal financing or they can sell (the loans) to us," Warder says.

Some Lenders Return To Program

For now, lenders seem reassured. In fact, some of those that pulled out are now back in the program making loans. The Education Department dismisses critics who say this is nothing more than a bailout at taxpayers' expense. Come this fall, Warder says, it's students and families who'll benefit.

"So we've essentially guaranteed that federal money will be available," he says.

The federal student loan program may have averted a meltdown. But with 8.5 million students who need loans this fall, it's likely that many will still be short of money for college. Warder says some students may just have to find cheaper schools.

"There are a lot of hard choices, and if you can't afford a Cadillac you buy a Chevrolet," he says.

As for that public-private partnership? It's going to change now that the federal government has assumed a much bigger role as a lender and manager of student loans. Financial experts say it won't be not known whether that's good or bad for at least another year.