Student debt overhang pushing down US rates: Fed’s Dudley
Debt load is inhibiting homeownership, New York Fed data show
Free college is a “reasonable conversation” to have, he says
The rising burden of student debt is weighing on interest rates in the U.S., and it would be a “reasonable conversation” for policy makers to explore making college tuition free, Federal Reserve Bank of New York President William Dudley said.
The growing pile of student debt is “obviously one headwind to economic activity” that “probably pushes in that direction of lower equilibrium real rates” because it limits households’ spending power, Dudley said Monday during a press briefing in New York.
Fed officials have been trying to estimate the so-called equilibrium level of interest rates that keeps economic growth on a steady and sustainable pace. The concept has increasingly dominated the debate about where to set the U.S. central bank’s benchmark rate and how quickly to move after policy makers in December 2015 embarked on their first tightening cycle in nearly a decade.
Dudley and many of his colleagues have argued that the economy doesn’t have the potential to grow as fast as it did before the 2007-08 financial crisis due to factors such as an aging population, low productivity growth and a reduced willingness by households to spend.
That means central bankers won’t be able to raise interest rates as high as they were before: One prominent Fed estimate suggests the equilibrium inflation-adjusted interest rate is just 0.2 percent, down from 2.1 percent at the end of 2007.
The New York Fed chief called the lack of free college in the U.S. “a political decision” as opposed to an economic one, adding that as “college becomes more important in terms of future outcomes,” debating that policy is “a reasonable conversation to have.”
During the briefing, Dudley and his staff presented data showing significant disparities in home-ownership between those who graduated from college with debt and those who graduated without it.
In 2016, almost half of all 30-year-olds who left college with debt between 2006 and 2011 had missed at least one of their required monthly payments, according to the New York Fed researchers. Nearly a third of them had defaulted, meaning they missed nine straight months of payments.
The median credit score of borrowers who missed at least one payment was below 670, which is near the dividing line between “prime” and “subprime” status. The median credit score of borrowers who defaulted on their debt was 549.
The damage to those borrowers’ credit profiles from missed payments means “it will be very hard for them to buy a home,” Donghoon Lee, a New York Fed economist, said during the briefing.
Borrowers who left school in 2013 are faring better than their 2011 counterparts but are still defaulting on their loans at higher rates than those who left school in 2007, just before the recession began, the researchers found.
“To the extent that student-loan growth inhibits home-ownership, this could obviously have significant consequences for the economy, because when someone buys a home, that can lead to more home construction, which has a pretty high multiplier,” Dudley said.