Colleges have a big stake in the Supreme Court decision on student debt

Colleges have a lot at stake in the Supreme Court’s decision on student loan cancellation. If the court grants cancellation, colleges will know that student loans will continue uninterrupted as a key source of their income. If it denies students’ cancellations, it could lead to a whirlwind of defaults threatening the entire system.

The government warned the Supreme Court justices that students benefiting from a long repayment pause would have a hard time restarting payments unless they receive some cancellation. No one knows for sure how students will react. However, if many fail to begin repayments as polls suggest, their credit ratings will tank, risking their financial future. Such a disruption in existing loans could weigh on new loans being offered. Without an alternative that would be very bad news for colleges.

On the face of it, colleges do not have much to worry about because student loans exist as an entitlement not subject to annual appropriation. Every year the amount needed for students to borrow is made available without congressional oversight or approval.  No matter what the Supreme Court decides, this will continue. But some lawmakers in Congress want to put colleges on the hook for student defaults. A sharp increase in defaults would give deficit-focused law makers fodder to limit what students and their families can borrow in order to protect the tax payer.

There is an alternative that could complement or over time even replace the need to cancel debt. The government could mandate colleges to cut tuitions if they want to continue receiving student loans for their students. It has the power to do so but lacks the will.  On average private colleges receive 30 to 50 percent of their tuition revenue from student loans in the form of direct government transfers. Most could exist only a few months or even weeks without these transfers. In fact, when measured by sources of income, our private colleges owe their souls to the government store.

Cost reduction is cleaner than cancellation because students enjoy its benefit up front rather than having to figure out the likelihood of their debt being wiped out in the future. Unfortunately, the government is doubling down on cancelations in a new plan that ties repayments to income, removes interest capitalization and provides cancelation at the end of the loan term. It’s a real pretzel.

The public clambers for lower college tuition, but the government hesitates. Forced to choose between making colleges lower costs or making taxpayers pay the cost of cancelation, the government chooses the latter. Either way the court decides, large chunks of the debt will never be repaid. Students should never have had this debt in the first place. And if the government had influenced colleges to cut costs, they never would be waiting nervously for the Supreme court’s decision today.

Robert Hildreth is a former International Monetary Fund economist whose professional work involved restructuring South American debt and marketing sovereign debt loans. He founded the Hildreth Institute, dedicated to restoring the promise of higher education.