How Much Will It Matter If Student-Loan Interest Rates Double?

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The bell has been rung in the next round of the fight over student-loan interest rates, and borrowers could take it on the chin this time. On July 1, if Congress does nothing, the interest rate on federally subsidized Stafford student loans will double from 3.4% to 6.8%. 

“It’s not the end of the economy as we know it,” says Mark Kantrowitz, publisher of student-lending websites Fastweb and FinAid. He’s right, but that doesn’t mean it won’t really stink, especially for the poorest college students.

Advocacy group U.S. PIRG says it could cost students an extra $1,000 over the life of their loan if the interest rate on those loans goes up to 6.8% in July. In reality, it might be more: some students wind up paying off their loans for upwards of 20 years, and that $1,000 is calculated based on the average one-year loan amount borrowers take out, which is $3,357. But the average bachelor’s degree recipient who graduates with debt does so with $11,329 in subsidized Stafford-loan debt.

Still, as Kantrowitz points out, that’s only a little more than $20 a month. So, for most borrowers, this probably still wouldn’t make much of a difference. The rub is that these subsidized Stafford loans are widely used by lower-income families. In the 2007–08 academic year, about half of bachelor’s degree recipients who graduated with student-loan debt had a subsidized Stafford loan.

Of these, “70% come from families who make less than $50,000; 24% from families with incomes between $50,000 and $100,000; and 6% from six-figure-income families,” Kantrowitz wrote last year in a New York Times op-ed article written jointly with Lynn O’Shaughnessy, author of The College Solution.

Poor students and their families are already grappling with cuts to the Pell Grant system that make it necessary for them to take out more loans if they want a higher education. “I would rather the focus be on reducing the debts by increasing the grants,” Kantrowitz says. But that’s a whole other political battle, and letting rates rise on borrowers isn’t a trade-off that would guarantee a restoration of grant funding.

(MORE: Student-Loan Debt Crisis: How’d We Get Here and What Happens Next?)

Many young people might not feel like they have a choice, though. The Pew Charitable Trusts published a study earlier this year showing that even before the recession, 21- to 24-year-olds with four-year college degrees were employed at a much higher rate than those with just a high school diploma. “Job losses during the recession made existing employment gaps even worse,” the report says. Employment for those with just a high school education dropped twice as much as for those with a bachelor’s degree.

Some student advocates take issue with the fact that the government earns money through its student loans. According to U.S. PIRG, the government will earn more than $34 billion on the money it puts into student loans through the end of the year if rates go up in July.

It cites Congressional Budget Office data calculating that the federal government will make 12.5¢ on the dollar for each subsidized Stafford dollar loaned; 33.3¢ on each dollar loaned through the unsubsidized Stafford loan program; 54.8¢ on the dollar through the Graduate PLUS loan program; and 49¢ on the dollar for parent loans in 2014.

(MORE: Is the Student-Loan Debt Crisis Worse Than We Thought?)

The government’s involvement in the business of lending to students has made even some government agencies uneasy. In 2011, the FTC fined two third-party debt-collection firms hired by the Department of Education more than $4.5 million for illegal practices like making threats and being verbally abusive.

According to the New York Times, the Obama Administration wants to make the rates on student loans adjustable. “The White House budget is widely expected to include a proposal to move to a variable interest rate, pegged to the government’s cost of borrowing, that would be reset every year,” it says.

This might give borrowers some relief now, since rates are historically low. But given that many students take out loans with terms stretching more than a decade, this could mean higher costs for future generations of students.

This isn’t a sure thing; there are some in Congress who are advancing another extension of the 3.4% rate. The downside of that is that it sets up lawmakers for another fight — and throws borrowers into uncertainty — the next time the expiration date rolls around.