Eerie Similarities

• It starts with a simple premise that almost all people would agree with like "Housing prices always rise" or "Education is always worth the investment."

• It targets the least financial savvy of society...
  
  • As the OECD report "Improving Financial Literacy" states:  "Although financial literacy levels are low in general for consumers, they are especially low for certain groups of consumers, such as the less-educated, those at the lower end of the income distribution, and minorities." 

• Who also are most susceptible to the "dreams of home ownership" or "achieving your dreams of a college education."

• It is fueled by pliant credit markets that provide loans regardless of ability to pay leading to instruments such as "no-doc mortgage loans" and federal student loans that provide independent students with an ability to borrow up to $57,000 (yes, they are an enabler in this).
  
  • I would also include the proliferation of institutional loan programs, which forecast default rates over 50%, in this category.  Giving money to student when you anticipate more than 1 in 2 won't be able to repay is not a bad definition of predatory lender. 

• Aided by laissez-faire regulators or better yet overlapping regulators (like the educational triad), to ensure that more time is spent arguing over who is responsible for what rather than enforcing regulations.  If I wasn't laughing I would be crying about the GAO's findings of a regulatory gap left by a retiring Dept. of Ed. official responsible for monitoring the ATB test publishers.  His/her work was apparently so important that their responsibilities were never transitioned, until GAO started asking questions about who was monitoring these test publishers.   
  
  • It also helps to have inadequate measurement systems, such as the cohort default rate which determines ongoing eligibility at the institutional level.  See this post for the many inadequacies of this measure, which is certainly effective at keeping the "failure factories" alive. 

• Standards for qualifying for a home loan or for access to funding have to be lowered sufficiently to alllow access to all, leading to the proliferation of no-doc liar loans in housing and ATB tests to qualify for federal aid.  Symptomatic of these low standards, GAO uncovered fraudulent activity at an ATB testing center where answers were provided to students and tests were doctored to ensure students could access these federal funds. 

• Exacerbated by a lack of transparency in disclosure which might allow home borrowers or student borrowers to make more effective decisions by comparing alternatives or understanding the potential ROI of their investment. 
  
  • Fights regulations that might improve disclosure or increase oversight 
  • Here are some disclosure requirements and a warning that might help

• Has strong support on both sides of the aisle in Congress, who note the universal good of increasing access to home ownership or education. 

• Generally disastrous outcomes for those who bought into the initial premise:
  • For subprime home loans:  In July 2009, "S&P now expects the default rate on subprime loans issued in 2005, 2006, and 2007 to be 11 percent, 30 percent, and 49 percent, respectively."
  • For student loans to non-traditional students:
    • Private loans:  As of the 3Q 2009, Sallie Mae non-traditional loan portfolio has charge-off rate of 28.5% (as a percentage of loans in repayment) with delinquencies over 90 days at 17.8% (as percentage of loans in repayment) and forbearances at 8.1% (as a percentage of loans in repayment and forbearance).  Notably, Sallie Mae is no longer lending to this segment. 
    • Federal loans:  The GAO report sheds additional light on this by showing current 4-year default rates of 23.3% at proprietary schools, which is likely closer to 35%-40% if you exclude borrowers in forbearance and deferment.  Roughly 40% is what the government has budgeted for the cumulative default rate for 2-year prop. schools. 
      
      • Take that number in for a moment, 4 out of 10 will default.  To which boosters will say, a cumulative default rate is not a reflection of their education, it is a reflection of their life circumstances.  To which my response would be:  How is packaging a student, who has a significant risk of failure with a significant amount of debt, in the student's best interest?
        
        • College Board study released today showed that 98% of students at 2-year for-profits and 96% at 4-year four profits borrowed for their education. 
          
          • At 4-year for-profits, almost a quarter borrow more than $40,000, while at 2-year schools 42% borrow more than $20,000. 

I don't have any easy answers...but wish a bipartisan commission of experts was thinking about how to solve this problem before a generation of low-income students write-off the value of education because they can't stop the collection calls. 

Comments

[John]

Halloween is 10 days away }: Very scary stuff. I hope congress does not feel the need to perform another bailout to prop up the institutions who do not deliver value.