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Associated Press/ Photo by Dan Gill

The other credit crisis

Education | Are student loans the next financial bubble to burst?

Issue: "Two-ring circus," Sept. 6, 2008

A rising fear among economic prognosticators supposes that the burst bubble of the housing market could prove a model for the collapse of another credit-based investment strategy on which millions of Americans are staking their financial futures: student loans. Ominous signs of instability loom: large lenders pulling out of the market, climbing default rates, squeamish investing in student-loan-based bonds.

For all the reports of a student loan squeeze, actual stories of squeezed students are difficult to find. Those tales of learn and loss could emerge in the coming weeks as first semester payments come due. But as yet, many colleges and universities are reporting record enrollment for the coming academic year.

What then is all the fuss about? Lauren Asher, vice president for the Project on Student Debt, believes most concerns stem from confusion about the distinction between federal and private loans. She confirms considerable tumult within the private student-loan sector but contends that such problems need not generate wide alarm since the federal sector, which accounts for about 90 percent of student loans, remains strong-even increasing its scope this year with legislation to raise the maximum amounts of annual financing.

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Thus, the impact of the student loan crunch, according to Asher, is more likely to drive students to seek federal loans than to abandon higher education. She views that migration as positive, given the better terms and more flexible payment structure of the government financing.

Private loans, she says, are sadly in a mess of their own making: "There are some parallels to the subprime lending in that people who really couldn't afford it were being sold very high interest loans without clear terms."

As with the subprime housing market, such high-risk, high-reward loans became the featured product of many private student lenders while the economy boomed. But now, as wallets thin and borrowers default, big name institutions are scaling back their offerings or dropping out of the private student-loan market altogether. Bank of America, Citigroup, and Wachovia are among the dozens of lenders tightening their range and number of products.

Among private lenders still offering student loans, higher FICO score standards are pushing some prospective borrowers out of eligibility. Mark Kantrowitz, author of several books and online resources on paying for college, says the new requirements demand credit scores as high as 680 to 700, a challenging proposition for many college students.

And not everyone can simply shift over to a federal program. Academic ineligibility or parents unwilling to put the loan in their name are among the reasons the government's Parent Loan for Undergraduate Student (PLUS) program might remain out of reach. Kantrowitz estimates that 100,000 to 200,000 students (about 1 percent to 2 percent) could be left without financing options. But he also recognizes that the crunch could yield some positive effects in dissuading students from accumulating burdensome debt.

It may also cause families of college students to consider some basics often lost in the race to a good college education-and on display at a rising San Diego charter school featured in this issue of WORLD's special back-to-school section: Love the kids, get the right people, and do the hard work. That's the model philosophy from a new school with an old working-class name (see "Charter course").

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