The rapid rise in student loan balances has raised concerns among economists and policymakers. Using administrative credit bureau data, we find that nearly half of the increase in balances from 2010 to 2020 is due to deferred payments, largely driven by the expansion of income-driven repayment (IDR) plans, which link payments to income. These plans help borrowers by smoothing consumption, insuring against labor income risk, and reducing the present value of future payments. We build a life-cycle model to quantify the welfare gains from this payment deferment and the channels through which borrower welfare increases. New, more generous IDR rules increase this transfers from taxpayers to borrowers without yielding net welfare gains. By lowering the average marginal cost of undergraduate debt to less than 50 cents per dollar, these rules may also incentivize excessive borrowing. We demonstrate that an optimally calibrated IDR plan can achieve similar welfare gains for borrowers at a much lower cost to taxpayers, and without encouraging additional borrowing, primarily through maturity extension.
Authors
- Acknowledgements & Disclosure
- We are grateful to numerous seminar participants and colleagues for helpful comments. TransUnion (the data provider) has the right to review the research before dissemination to ensure it accurately describes TransUnion data, does not disclose confidential information, and does not contain material it deems to be misleading or false regarding TransUnion, TransUnion’s partners, affiliates or customer base, or the consumer lending industry. The views expressed herein are those of the authors and do not necessarily reflect the views of the National Bureau of Economic Research.
- DOI
- https://doi.org/10.3386/w33059
- Pages
- 72
- Published in
- United States of America
Table of Contents
- Introduction 3
- Institutional Background 8
- Student Loans in the United States 8
- Repayment Plans 10
- Decomposing Payment Deferrals and the Rise in Balances 11
- Data 11
- Trends in Student Loan Balances 11
- Counterfactual Aggregate Student Debt 14
- Model 17
- Agent 17
- Student Loan 18
- Benchmark Economy Without IDR 18
- Economy With IDR, Before SAVE 20
- Economy After SAVE 20
- Prepayment 21
- Income and Taxes 21
- Welfare 24
- Sources of Welfare Loss 24
- Welfare Gains From Policy 26
- Decomposition of Welfare Gains 28
- Existing IDR Rules 30
- Model Calibration 30
- Welfare Gains 32
- Distributional Consequences 34
- Cost of Debt and Borrowing Incentives 37
- Potential Cost of SAVE to Taxpayers 39
- Policy Design 41
- The Role of IDR Parameters 41
- Optimal Policy Calibrations 44
- Discussion 49
- Concluding Remarks 51
- Appendix 55
- Model appendix 55
- Model calibration 55
- Income process 55
- Income taxes 55
- Life cycle profiles 56
- Numerical resolution of the model 56
- Auxiliary model 57
- Potential cost of SAVE 60
- Additional figures 63
- Data Validation 64
- Additional figures 67
