Student loan forgiveness–who doesn’t like free money? However, it’s not so simple.
Last Wednesday, President Biden announced his loan forgiveness plan, which offers up to $10,000 in debt relief for individuals making less than $125,000 per year, with Pell Grant recipients receiving up to $20,000 in debt cancellation.
As expected, such a generous endowment has its caveats. It’s universally agreed upon by economists that this government program will induce inflation to some extent. Even left-leaning organizations like the Center for American Progress agree there are potential economic consequences, regardless of the social benefits.
So what about the economy though? Often these arguments are too esoteric for most people. To put it into perspective, inflation simply means that things cost more than they used to. Higher costs means that the same money you had previously is effectively worth less.
But how does debt forgiveness, like student loan forgiveness, cause inflation? It’s estimated by the White House that out of the 43 million federal student loan borrowers eligible, about 20 million will have their debt completely eliminated. Federal loan borrowers freed of debt will experience increased consumption and feel less pressure from overall debt. A sudden increase in income promotes spending habits which would not have occurred without debt forgiveness, leading to the upward price movements.
Of course, this debt does not simply vanish. Rather, it effectively is transferred from a private debt to a public debt. The cost that students would have had to pay back is now forwarded to the government and thus ultimately spreads itself out among the public.
Michael Pugliese, an economist at Wells Fargo & Co., offers inflation estimates between 0.1% and 0.3% caused by Biden’s loan forgiveness plan. Compared to the cooling-off-but-still-high 8.5% inflation rate the United States faces currently, inflation caused by debt cancellation is not overwhelmingly significant to the current inflation predicament.
“But inflation right now is at pretty alarming rates,” Pugliese says. “At a time when the economy is already running too hot, it just threatens putting more fuel on the fire.”
Indeed, the United States is already facing a volatile economy, and reducing inflation is an economic priority. Potentially increasing inflation only hurts the motives of the recent Inflation Reduction Act.
On top of this, the Fed typically aims for an annual inflation rate of 2% and is looking to return to this long-run goal in the near future, though this is unlikely. In the face of 8.5% inflation, even tenths of percentage points add up and play a larger role to reaching the much lower 2%.
There are also arguments against the importance of inflation. According to economist and University of Massachusetts-Amherst professor Arin Dube, “There are solid reasons to oppose the policy or support the policy, but inflation to me is not a big part of the issue.”
Loan forgiveness may have some recourse. Among rising interest rates and an already high inflation rate, the population paying off student loans receives alleviation from an intense market and the overall benefits do have a possibility to outweigh the economic costs.
With the timing of the loan forgiveness announcement and midterm elections approaching quickly, one can only guess how much the Democratic Party is committed to solving these issues. The Democrats risk losing Congress and need to win voters, but the party still faces much criticism. On top of the $1.9 trillion American Rescue Plan, voters may not approve of the zealous spending habits of the Democrats. The economy can be unpredictable. How many spending bills until the federal government flies too high? This is a risky precedent, and we should not be so amenable to the bribes of policy makers.
And with student loan forgiveness, what incentive do schools have to lower their costs? Enabling this precedent of the government bailing out students hurts accountability towards colleges and the push to lower the cost of college—they can simply forget about tuition costs, or worse, raise them further if some debt is forgiven.
Student loan forgiveness vastly neglects the underlying causes of high college. There are reasons that students are taking out these loans. Students nationwide face $1.75 trillion in total student loan debt, with 92% of this debt being federal loans. Loan forgiveness distracts from the push for education reform, and it’s clear that this issue has no definite resolution in the near future.
