Total student loan debt now exceeds $1.6 trillion, with 45 million Americans carrying balances. Of those, around 20% owe at least $100,000. Among millennials who have yet to buy a house, 8 in 10 say college loans are the primary obstacle.
So, is a degree still worth the investment? The answer is generally yes, but it depends on the school, the major, and the adoption of a rational plan.
The federal student loan program traces its origin to the Higher Education Act of 1965, a worthy attempt to make a university education available to more Americans.
Over time, the program has expanded exponentially into an ill-designed boondoggle that has ensnared many borrowers in a debt trap and fueled excessive inflation in college tuition. By 2010, the federal government took over all subsidized college lending and removed tuition caps, prompting a surge in borrowing.
Although well-intentioned, the poorly underwritten program perfectly embodied President Ronald Reagan’s quip about the most terrifying words in the English language: “I’m from the government, and I’m here to help you.”
Given virtually unlimited availability of federal loans, it was inevitable tuition costs would respond to the surge in demand for college admission. Several academic studies have demonstrated strong correlations between the explosion in loans and soaring college costs. One Federal Reserve study from 2015 found that every dollar of student aid caused tuition to rise by 65 cents.
Over the past 20 years, according to U.S. News & World Report, the cost to attend a private institution has risen by 168%, while public in-state costs have spiked by 243%. Meanwhile, median household real income has barely budged over the same two decades.
In order to evaluate the payback on such a huge investment, the New York Fed looked at the two main costs associated with a bachelor’s degree: net out-of-pocket costs (tuition and fees), and “opportunity costs,” or the amount of wages foregone by not working during four years at school.
In general, the Fed found that the mean annual return on investment for a bachelor’s degree is 14%, well above historical returns to standard assets like equities. The average college graduate earned $30,000 per year more than high school diplomas, or roughly $1 million more in lifetime earnings. Clearly still a bargain.
There are some caveats. The return depends greatly on the degree. STEM fields yielded an average return of 18%, essentially a slam dunk. But liberal arts degrees averaged around 9%, a much closer call. Aspiring students must undertake a sober analysis of future income potential in their chosen profession and assess the prospects of reaping sufficient benefit.
And the same Fed researchers found that for the lowest 25 % of post-college wage earners, the investment does not pay from a strictly financial perspective. The authors suggest that the choice of degree for those students is driven by personal goals rather than monetary reward.
The worst option: dropping out. The average loan debt for college dropouts is $14,000, and half of those borrowers are in default, creating a lasting financial hardship that will follow them for years. We recently began seeing the first Social Security recipients with college debt.
The bottom line is that on average, most college degrees still pay for themselves over a lifetime, but students must have a rational plan. Less expensive state schools are perfectly appropriate for professions with lower income potential. Completing basic course requirements at a community college is a huge cost-saver.
And before borrowing to finance a degree, evaluate the cost and impact of student loan debt you will carry well beyond graduation day.
Christopher A. Hopkins, CFA Vice President and portfolio manager
Barnett & Company