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What the Foreclosure Mess Tells Us About Private Student Loan Dischargeability

posted by Adam Levitin

The most recent attempt to roll back some of the BAPCPA's limitations on the scope of the bankruptcy discharge seems to have faltered in the House. The House passed an education bill, but without a proposed amendment that would have made private student loans dischargeable in bankruptcy, as they were before October 2005, was voted down. A Senate bill (S.1561) sponsored by Dick Durbin (D-Ill.) that proposes making the private loans dischargeable is still in committee. (For a discussion of the legislation see here.)

The argument against dischargeability that private student loan originators make is the same that the mortgage industry is making regarding Chapter 13 modification of single-family principal residence mortgages---if this is permitted, rates will go up and credit will be less available. This argument is not made on the basis of empirical work; it is a simple bit of economic theory--the greater the scope of dischargeability, the greater lenders' losses are in bankruptcy, and lenders will compensate for this by charging everyone else higher prices.

This is a nice Ec 101 story, but real markets are often more complex. We know the mortgage industry's numbers about the supposed impact of anti-foreclosure legislation on mortgage rates are baloney. Maybe the student loan market works differently, however.

I don't know of any empirical study on the impact of the BAPCPA on private student loan pricing, but there is a study on the impact of the BAPCPA on the availability of private student loans by credit score that finds only a slight increase in loan availability and only to applicants with low credit scores. I don't think this study completely shuts down the private student loan industry's economic theory argument, but it goes a long way towards it. The case of the mortgage industry makes me uncomfortable about accepting the same economic theory argument in other contexts without some empirical support for it, and especially when the sole empirical piece around indicates that there isn't much of a market impact.

To put a point on this, how readily should we accept the economic theory claim that greater dischargeability raises loan price and/or decreases lending volume without empirical evidence? How sensitive are different lending markets to bankruptcy outcomes?

Comments

Need to be careful when talking about "private" student loans. There is much confusion there. Do you mean loans made under title IV by private lenders, do you mean loans made under a totally non-governmental program--but guaranteed by ostensibly "non-profit" institutions, or do you mean private loans made by for profit banks?

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