Thursday, October 27, 2011

Free Money

Renault:         Oh, no.   Emile, please.  A bottle of your best champagne, and put it on my bill.
Emile:             Very well, Sir.
Lazlo:             Captain, please.
Renault:         Oh, please, Monsieur.  It is a little game we play.  They put it on the bill.  I tear up the bill.  It is very convenient.
—Claude Raines as Captain Louis Renault, Leo White as Emile, and Paul Henreid as Victor Lazlo in Casablanca

The President’s vote-buying tour continues.

I see now he is announcing a new executive initiative to re-write the paradigm for student loans.  This time, the deal is you borrow from the federal government (read: we taxpayers), and you pay the loan back at 10% of your income over $10,890, and at the end of 20 years whatever hasn’t been repaid is forgiven.

Where do I sign up?

This isn’t the first time this President has ventured into the lending business, which should really come as no surprise given his extensive background in business and finance.  But let’s review a bit of the history, shall we?

Rewind to the Spring and Summer of this year.  With unemployment stagnant at over 9% (really closer to 18% if you count the underemployed and those who have given up), and an economy showing effectively zero growth, Obama declares a budget emergency because the government reached its debt limit.  Having maxed out the credit card by accelerating the debt in just two years more than any administration in history, Obama spent much of June and July insisting that Congress had to raise the debt limit and allow him to borrow—and continue spending—even more.

Recall also the Solyndra debacle.  The Obama administration not only fast-tracked $500 million in federally guaranteed loans to a soon-to-be-bankrupt firm in an unproven startup industry without adequate financial review, it then doubled-down by restructuring the deal so that the taxpayers moved to the back of the creditor-priority queue.  Touted as a necessary “investment” in our green energy future, it is becoming increasingly clear that the $500 million bet on Solyndra was at best a naïve play on one of the Left’s most basic fetishes by an administration full of career academics, with neither the training nor the expertise to be dabbling in such high-risk business ventures.  At worst, it was just naked crony capitalism.

Or outright graft. 

Or how about earlier this week when the President unveiled an initiative to push banks to make high-risk, low-interest loans to people with iffy repayment ability, secured by mortgages on homes worth less than the amount being loaned.  As I discussed here, this is simply a reprise of the very federal mortgage program concepts that led to the banking industry meltdown and the current recession/malaise in the first place.

Over and over again we see this administration getting involved in so-called "loan" transactions where the concept of risk and the obligation of repayment seem not to exist.  I had a college buddy whose girlfriend couldn’t understand why her bank account was empty when she still had checks left.  It is clear that this President suffers from the same fundamental ignorance about money, and what loans and debt are.

Obama’s focus is solely on the borrower.  But when a student, or home purchaser, or business borrows money, that money doesn’t just fall from the sky.  The President forgets or does not understand that there are in fact two parties to a loan transaction.  Yes, there is the borrower who receives the money.  But there’s also the lender who supplies the money, and the key concept here is that the lender is only allowing the borrower temporary use of the lender’s money.  A loan is not a donation, and it’s not a gift.  The lender makes his money available to the borrower with the express expectation that at some agreed-upon time (or over an agreed-upon period of time), the borrower will pay that money back. 

It’s this latter part that Obama simply just doesn’t get, whether the context is borrowing to finance runaway government spending, compelling banks to make high-risk refinancing mortgage loans, or lending federal tax dollars to unproven green tech ventures or college students: 

Eventually the money has to be paid back.

If we ignore (or “forgive”) the repayment obligation, all we’re really doing is taking money from one person and giving it to the other.  That’s a great deal if you’re the borrower.  Not so much if you’re the lender.

Let’s put this into perspective in the student loan context.  There are some 36 million student debtors with an estimated total of $1 trillion in outstanding student loans.  By reworking the program to call for payments at only 10% of income above the poverty line and combining it with total debt forgiveness at 20 years, the President is inviting deliberate default—effectively taking $1 trillion from the taxpayers and giving it away to college students.  Yes, I know not every student will default, but the more unscrupulous will. 

And there’s the not-so-small problem of huge amounts of these loans being used to finance economically and socially useless degrees—some would say my political science and law degrees fall into this category, but I paid my student loans—where there simply is no job market for such graduates, and thus no real prospect that they’re going to have the economic wherewithal to pay the loan back once you have your loan-financed degree.  Quite like Solyndra, the making of these loans is not tied to any realistic assessment of the likelihood that the money will be repaid.  Chris Stirewalt at put some flesh on the problem:

"If Suzy Creamcheese gets into George Washington University and borrows from the government the requisite $212,000 to obtain an undergraduate degree, her repayment schedule will be based on what she earns.  If Suzy opts to heed the president’s call for public service, and takes a job as a city social worker earning $25,000, her payments would be limited to $1,411 a year after the $10,890 of poverty-level income is subtracted from her total exposure.

Twenty years at that rate would have taxpayers recoup only $28,220 of their $212,000 loan to Suzy."

Some might say Stirewalt’s example is too extreme (actually, he’s understated the case, because he doesn’t include interest).  Let me take something a little more realistic, then.  According to the National Center for Education Statistics, the median income for those 25-34 with an undergraduate degree is $45,000.  At that income level, the student would only be paying $3,411 per year, or a total of $68,220 over the 20 year life of the loan.  To be sure, not everyone will take out the full $212,000 in Stirewalt’s hypothetical—the average is more like $27,000—but plenty will borrow between $50,000 and $100,000, and the median income figures suggest that a substantial number of them will never pay the full amount back under Obama’s reduced-payment-and-forgiveness plan.  UPDATE 10/27/11:  Not sure how I missed this, but AP reports (sorry, I can't find the link now) the White House is claiming that despite the obvious mathematical necessity that a substantial amount of these loans will never be repaid, somehow this program will not cost taxpayers anything.

When I graduated from Rice University, President George Rupp told us in his commencement address that “there is no free lunch.”  Eventually, someone has to pay the tab for all this.

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