The Bubble That Won’t Burst: Subprime Crisis in US Higher Education

The world financial crisis of 2008 was a traumatic event whose consequences still reverberate through global economics and politics. The crisis was sparked by the collapse of the US subprime mortgage property market. Global investors, continuously seeking new investments with higher returns and lower risks, realized that mortgages are such an investment: at a high annual return of approximately 7 percent in pre-2000 days, they were unusually low-risk because most homeowners paid their mortgages with great discipline for fear of losing their homes. However, handling the technicalities of individual mortgages was cumbersome, which is why banks packaged multiple mortgages into mortgage-backed securities that offered similar high returns and low risks but higher convenience to the investor. This led to an increase in the demand for mortgages as an investment, which stimulated banks to start lending to less wealthy, poorly informed “subprime” consumers—a practice that came to be known as predatory lending. Since more people could then afford houses, the demand increased and so did prices. This further increased the amount of money being spent on mortgages, ultimately resulting in a property bubble. During the inflation of this joint mortgage and property bubble, mortgage-backed securities morphed into much riskier investments than they originally had been, and the bubble burst once massive numbers of unqualified borrowers started defaulting on their loans.

A somewhat analogous situation is currently developing in US higher education, but with consequences that will have different manifestations. The United States is unique among the developed countries in that students pay closer to the full cost of their higher education. According to the College Board, tuition alone averages $10,000 per year at public four-year colleges and universities and more than $35,000 per year at private universities, and substantially adding to the cost are numerous fees and textbook costs. The United States also has many more private universities and universities run for profit than elsewhere.

There are some clear analogies between borrowing for education and for a house. First, they are both motivated by the largely correct belief that the borrower will be better off enjoying the benefits of big-ticket items such as education or a home at the beginning of their adult life (when they can only buy them on credit) rather than at the end of it (when they can buy them with accumulated lifetime savings). Second, the US government provides de facto subsidies and guarantees for banks that lend money to both students and future homeowners, since education and home ownership are seen as benefiting the country as the whole. Third, the number of homeowners increased steeply during the property boom, and university enrollment continuously increases. Fourth, the prices of both homes and higher education have been increasing at a rate that outstrips that of US inflation.

The reasons for the increasing price of higher education are generally thought to include decreased state support for public universities; increased ranks of well-paid administrators; increased emphasis on facilities related to student living rather than education, such as dorms with cable television (and often HBO!), high-class gyms and stadiums, and expensive sports programs; and “Ivy envy,” which stimulates even provincial universities to have weakly competitive but expensive PhD programs in every conceivable discipline. The increase in the price of US education would have probably been higher if universities had not resorted to cost-cutting measures, which include increasing the student-to-faculty ratio, replacing in-person education with online courses, and hiring poorly paid non-tenure-track faculty to teach classes without having research responsibilities.

Finally, predatory lending practices are developing in higher education. Students are encouraged to “power through” their education while taking less personal responsibility for it, outsourcing that responsibility to faculty and staff academic advisers. Increased emphasis on improving student success rates appears to be in direct conflict with students’ best interests, as they will soon enter the competitive postcollege professional world where only the best will be successful and where the number of successful professionals will be limited by market demand. Universities extract money from students while dubiously preparing them for the challenges of cutthroat capitalist society.

There are differences, too, between home buyers and students. While the prospective homeowner needs only an adequate income acquire a house, the prospective college graduate needs both financial means and a certain psychological makeup—including not only threshold intellectual ability but also persistence, discipline, and independence—to acquire an education. Unlike home mortgages, student loans are extremely difficult to discharge in bankruptcy. The most significant difference relates to the valuation of the purchased product. A house is a liquid asset, compared to education, and it has an easily verifiable value. While that value may plummet during a property-bubble bust, it rarely goes to zero, and its comparison with the prebust price offers easy cost-benefit analysis even for owners with no education in finance. On the other hand, education is not a liquid asset and one cannot cash in on it immediately after graduation. Economic benefits of education are typically expressed as extra income that its holder will make during a forty-year postcollege career. Previous statistics can offer some insight into regular trends, but what happens if we experience an irregular trend such as a bubble? How would we know? Thus, the long-term salary differential between a college graduate and a high school graduate may plummet, but that effect will almost never look like a bursting bubble—a very slowly deflating bubble is a more accurate analogy. Overall statistics currently still suggest increasing benefits of higher education, much as they did for benefits of homeownership in 2007. However, available statistics are general and rarely broken down by university and degree obtained.

Who stands to benefit from current student-loan practices? Banks and loan collection agencies are the most obvious beneficiaries and indeed are culpable actors. However, both housing and education are big industries whose employees benefit during a bubble and crash the hardest during the bust (if they did not wisely handle surplus income during the bubble). During the property bubble, realtors, insurance companies, property developers, and construction companies benefited heavily. In an education bubble, so do universities. But how?

Universities are largely nonprofit organizations in the United States, so where does the money go? Three categories of university employees benefit through increased salaries and benefits: administrators of academic programs, top coaches of athletic programs, and tenured faculty. The former two classes have rapidly increasing salaries that are often among the highest in their respective states, even at public universities; tenured faculty do not have outrageous salaries but are afforded the benefit of extreme job security, which the shorter-lived first two classes do not enjoy. While the institution of tenure benefits academic freedom and research exploration, it is certainly expensive in a world where entire industries can disappear in a single year.

The development of this purported higher education bubble will look quite different from that of the property bubble. The bursting of the housing bubble itself acted as a quick and effective regulator of its excesses: access to credit tightened but did not disappear for customers who remained creditworthy; furthermore, they could now buy houses at prices much closer to their objective values. Because of the housing bust’s earthquake-like effect on the economy—and because laws last longer than memories of investors—governments stepped in with rules aimed at preventing similar bubble-and-burst occurrences in the future. In education, the dramatic bursting of the bubble is unlikely to occur, and thus post-crash regulation is improbable.

Tightening access to student loans would likely face political opposition from both the Left and the Right. Therefore, quick and popular fixes—the analogs of those that followed the property crash—are unlikely in the field of education borrowing.

However, slow, complex, and occasionally unpopular fixes may still do much to alleviate the problem. Some encouraging signs of awareness of the issue are already present. The overall cost of student debt has been the subject of much debate recently and often is the only aspect of university education that is discussed during national political campaigns. The coming years may bring some regulation of this market, which would help graduates get out of debt faster. The uneven distribution of this debt and its consequences adds complexity. A New York lawyer with a degree from Harvard can pay off student-loan debt much faster than a graduate with a BA in liberal studies from a regional university like Louisiana State University in Shreveport—despite the fact that the former may easily owe ten times as much at the outset. Statistics can offer some guidance. Universities should collect data on their alumni salaries and student debt in the years following graduation and correlate those earnings with GPAs and majors of graduates. With entire departments of superbly qualified statisticians and economists at their disposal, they are already uniquely positioned to do so—and the government could noninvasively encourage such studies by providing dedicated research grants to pay for them. Data obtained should be used not only as an advertising tool but also as a critical advising resource for the students. An adviser might say, “You want to switch your major to exploratory studies because you failed genetics? OK, but recognize that you may be losing future income. Score another C and you may be financially better off dropping out.” Such pragmatic counsel is only one aspect of advisement, but academic and financial advising could be much more closely integrated, especially for students who are taking out loans. However one feels about the purpose of college, less attention should be paid to making students feel good during their studies and more to their postgraduation quality of life, which the university experience should dramatically improve in a variety of ways. After all, most of us pay to visit doctors, dentists, or car mechanics not because we particularly enjoy medical treatments or seeing engine oil changed, but because our post-visit lives are improved by them.

Averaged over all graduates, higher education remains a creator of wealth for individuals and societies, and there are few investments for a society with a higher long-term rate of return. Successful college dropouts of the Bill Gates kind are incredibly rare. Education also has numerous nonfinancial benefits in terms of social standing, intellectual and emotional development, and self-satisfaction. Finally, liberal studies is a perfectly fine field of study for a person truly interested in the curriculum; it is the ones pushed into this ”easy major” on their way to graduating with a GPA of 2.0 whom I would caution, for the graduates may then have debt without the knowledge base and analytical tools needed to succeed in a highly specialized future workplace.

While the overall statistics speak positively about investment into education, at the tail end of this distribution—that is, for students of nonelite universities majoring in poorly marketable fields—statistics paint a bleaker picture. Such students have seen their debt grow, their competition in the job market steepen, and their earning potential weaken. It could very well be, also, that they are subsidizing the education of their more successful peers: they contribute to the economies of scale that control higher education costs for all students while not raising their own position to where they can effectively compete in the marketplace. The critical evaluation of financial benefits of their education is ultimately their responsibility, but universities and governments can help in this difficult and often uncomfortable cost-benefit analysis by offering hard data on future job prospects and earnings and balancing efforts aimed at increasing student success during studies with proper advising on the postgraduation value of those studies. They should not be complacent in the face of students’ (somewhat understandable) desire to ignore this reality. Otherwise, we may be just telling them, with no basis in reality, ”You too can own this three-thousand-square-foot home with nothing down!”

Ognjen Miljanić is an associate professor of chemistry at the University of Houston and a Cottrell Scholar of the Research Corporation for Science Advancement. His email address is [email protected].