CBO: $1.2 Trillion in New Federal Student Loans by 2026

Each year the Congressional Budget Office (CBO) provides its baseline projections for the federal student-loan program. The projections include the total amount of new federal student loans that the office believes will be issued, future interest rates, and subsidy costs, i.e. whether the government will make or lose money on the loans. This year, the CBO projects that the government will lend an additional $1.2 trillion to students between FY2016 and FY2026. The figure is down slightly since the 2014-2024 period, discussed here.

Subsidy Rates

The CBO uses an accrual-accounting methodology to determine the present value of federal loans. This essentially means discounting the estimated cash flows of student loans against government securities with the same maturities. If student loans make more money than buying government debt would, then the loans are valuable. Accrual accounting does not include the market risk that a private lender would consider when making a student loan, which is why many people advocate fair-value accounting. It’s a surprisingly contentious issue, which I elaborate in the student debt data page, because under fair-value accounting, the government loses money on student loans.

Under accrual accounting, the CBO projects negative subsidy rates for federal student loans; that is, it sees the government making money on its lending. All student loans made in 2015 will make an estimated 13.9 percent return. Of interest to law-school watchers: Unsubsidized Stafford loans and Grad PLUS loans issued in FY2016 will make 19.2 percent and 18.9 percent returns, respectively. Oddly, Parent PLUS loans appear to be the most profitable for the government.

CBO Table 2This year, however, the CBO included fair-value estimates of federal student loans. Under these, the government loses about 12 percent of its investment on student loans every year until FY2026. Unsubsidized Stafford loans and Grad PLUS loans lose about 5 percent in 2016, but the losses increase over the decade. Parent PLUS loans remain profitable.

Note also that the CBO believes the net number of loans will rise during the decade. It’s already evident that federal-student-loan borrowing is declining.

CBO Table 6Under accrual accounting the student loans will net the government $85.2 billion; under fair-value accounting the government will lose $145.1 billion. This isn’t a lot of money for the government, actually, but it could obviously be redirected to better uses.

Interest Rates

A crucial variable affecting subsidy rates, for both accounting methodologies, is the CBO’s projection of future interest rates. Two years ago, the office believed interest rates would rise from less than 2 percent in 2013 to 5 percent in 2018. This year, the CBO estimates that interest rates will rise to only 3.4 percent in 2018 and 4.14 percent starting in 2022.

CBO Table 4I believe the current interest-rate predictions are more plausible than the office’s estimates two years ago. The interest rate on 10-year government bonds has been falling this year, so the CBO may be overly pessimistic again for FY2016.

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In all, I think the CBO is overly pessimistic with these assumptions. Student borrowing is declining, and there isn’t much of a reason to believe interest rates will rise. This doesn’t mean the government won’t make bad loans, or that the skills and knowledge they pay for will make the workforce more productive, but it’ll probably be less than $145.1 billion.

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