Private Student Debt Refinancing Could Help Economy, CFPB Says

Allowing consumers to refinance private loans with public funds is one option for alleviating the burden of college debt on the U.S. economy, the Consumer Financial Protection Bureau said in a report.

About 15 percent of the $1 trillion in outstanding education loans consists of private debt, and a combination of private initiatives and public policy could help ease this burden, the CFPB suggested in the report released yesterday. Other government agencies have concluded that education loan balances, which now exceed credit-card debt, prevent young people from investing in other parts of the economy, including housing and autos.

“Even if such a program required public funds, or a sharing of the cost between the public sector and the owners of the loans, the economic benefits of facilitating restructuring activity at scale might outweigh program costs,” the CFPB wrote in the report.

The document, an aggregation of more than 28,000 comments that the consumer bureau received on the subject, is intended to start a broader discussion about reducing the education debt burden, Rohit Chopra, the CFPB’s student loan ombudsman, said in a telephone briefing.

The CFPB report outlines a “student debt domino effect” that hampers economic growth and limits borrowers’ financial prospects. It also highlights how the private debt load might be eased through refinancing, and how debtors might clean up their credit reports.

Private Focus

The report emphasizes possible solutions to the private debt burden, since federally backed loans already include workout options such as income-based repayment. Secretary of Education Arne Duncan said the report deserves “serious consideration” from policy makers.

“The CFPB’s important work highlights that many students are struggling to repay debt from private lenders, identifies obstacles that hinder lenders from providing borrowers with more options to better manage their debt, and provides thoughtful options,” Duncan said in an e-mailed statement.

Pauline Abernathy, vice president at The Institute for College Access and Success, which advocates for greater access to higher education, said the CFPB report would be a tool for supporters of lower loan levels to push for new options, or even legislation.

“The public needs to understand how inflexible the loan burden is, and the impact on the economy,” Abernathy said in an interview.

Richard Hunt, president of the Consumer Bankers Association, a bank lobby group, criticized the report for limiting its focus to the private market.

‘Underlying’ Issue

“If we want to address the fundamental issues, the CFPB and other policy makers cannot turn a blind eye to the $850 billion in federal student debt and must address the underlying cost of higher education,” Hunt said in an e-mailed statement.

The consumer bureau, created by the 2010 Dodd-Frank law to guard against abusive practices in financial services, has jurisdiction over private student lending. The Department of Education handles the government’s loans.

Education debt was the subject of a hearing the CFPB is holding in Miami yesterday. Richard Cordray, the agency’s director, exhorted lenders to aid borrowers.

“If these borrowers could refinance, their debt would be much more manageable,” Cordray said. “Given today’s historically low interest rates, there is a tremendous opportunity for lenders to take advantage of an underserved market.”

Warren Proposal

Senator Elizabeth Warren, the Massachusetts Democrat who set up the consumer bureau in 2010 and 2011 before seeking office, yesterday proposed legislation that would allow students to obtain federal loans at steeply reduced rates.

On July 1, rates on new federally subsidized Stafford Loans for undergraduates will rise from 3.4 to 6.8 percent. Warren proposed that students have one year to borrow at the same rate at which banks borrow at the Federal Reserve’s discount window, about 0.75 percent, she said.

“Big banks get a great deal when they borrow from the Fed,” Warren said on the Senate floor. “In effect, the American taxpayer is investing in those banks. We should make the same kind of investment in our young people who are trying to get an education.”

Other Markets

Government agencies including the Federal Reserve and the Financial Stability Oversight Council, a body of regulators, have acknowledged the impact of student debt on the economy over the past month.

In an April 17 blog post, the Federal Reserve Bank of New York concluded that debt loads are driving former students out of other lending markets, notably housing and autos.

“While highly skilled young workers have traditionally provided a vital influx of new, affluent consumers to U.S. housing and auto markets, unprecedented student debt may damp their influence in today’s marketplace,” according to the post.

The financial stability council reached similar conclusions in its annual report, approved on April 25.

In its report, the CFPB relayed concerns about other impacts of student debt, such as limited access to small business funding and restricted retirement savings. Also, rural communities can struggle to attract young professionals, like doctors, who need more lucrative work to pay off debt. The median education debt for 2012 medical-school graduates was $170,000, according to the Association of American Medical Colleges.

Federal First

Private education loan origination peaked at $22 billion in the 2007-2008 school year, and dropped to about $6 billion in 2010-2011, according to data collected by the College Board, a New York-based non-profit group. Consumer advocates urge students to max out their federal borrowing first, while banks argue that delinquency rates are lower on private loans.

About 30 lenders are issuing private loans today. Among the largest are SLM Corp., better known as Sallie Mae; Wells Fargo & Co.; and Discover Financial Services, according to the Consumer Bankers Association.

There were more than $8 billion in defaulted private student loan balances, with more in delinquency, according to the report. Between 2007 and 2010, the average student loan balance rose nearly 15 percent even as consumers were generally shedding other types of debt during and after the recession.

Chopra, the CFPB student loan ombudsman, urged Congress and President Barack Obama’s administration not to forget the current cohort of borrowers, who have suffered as a result of the recession.

‘Struggling Today’

“It is very tempting for s to focus solely on future generations of student loan borrowers so it can be avoided for the next group,” Chopra told reporters. “But for borrowers struggling today, that singular focus feels like rearranging deck chairs on the Titanic.”

Many commenters to the agency called for a “robust refinancing market,” Chopra said.

Chopra said the private refinancing market may need a boost from government involvement. Some lenders have been able to work out better terms for borrowers, and other innovations suggest a refinancing market is emerging, he said.

“The question is whether it will scale at appropriate speed to help significant volumes of borrowers today,” Chopra said.

Hunt, the president of the consumer bankers group, said in a March 27 letter that regulators limit options for reworking student loan repayments because banks have to write down the value of the loans using an adverse accounting methodology.

Martin Gruenberg, the chairman of the Federal Deposit Insurance Corp., disputed that claim.

“Workout arrangements could include loan extensions, deferrals, modifications and flexible repayment plans,” Gruenberg said in a May 1 letter to Hunt.