Get Out of the Student Loan Business!

M. Bakri Musa

It is an astounding admission by the Public Services Department that about 10 percent of its over 100,000 student-loan borrowers have not paid a penny on their loans.  Some of the defaulters had completed their studies over 20 years ago.

            The government through MARA, JPA, and others has disbursed the colossal sum of over RM12 billion over the years.  Additionally, the GLC National Higher Education Fund (PTPTN – its Malay acronym) had given out nearly RM19.06 billion to 982,000 borrowers since its inception.  Even if those figures represented rupiah or pesos instead of ringgit, they would still be a huge sum.

            To say that the involved departments were inept and inefficient in their loan disbursements and collections would merely draw a yawn.  What else is new?

            The reality is that such activities as credit assessment and loan processing are alien to these civil servants; they are wholly unsuited by training and temperament.  Those activities properly belong to banks and financial institutions.  The only realistic solution to the government’s present mess would be to get out of the student loan business by privatizing it, and selling off the existing outstanding loans.

 

Privatizing Student Loans

            Giving loans for students to continue their education is good investment.  The rate of returns to the individual as well as to society more than justifies such investments.  Beneficial though student loans are, this does not mean that the government should be doing the actual lending.  Malaysia would do well to learn from the experiences of other countries.

            In America, the government is not directly involved in the student loan business.  Instead it merely provides the regulatory and administrative framework; the loans are given out and collected by participating banks and other lenders.  The government determines the maximum amount of loan for which the student would qualify (based in part on the family’s income), and caps the interest rates and other terms of the loans.  This in effect is an indirect subsidy.  There is also only one application form, thus simplifying and reducing the administrative costs.

The lenders are of course free to offer loans at more favorable rates and terms.  Many indeed do so because of the competitive marketplace pressures with students free to find the most favorable loans from the various participating lenders.

            The government does give out direct student loans (a program comparable to the Malaysian one), but that constitutes only a very small fraction of the program and applies only to the needy.  Likewise, students could bypass the government’s program and borrow directly from private banks and be subjected to the banks’ regular credit and lending criteria.  Private banks in Malaysia offer similar services.

            By getting out of the business of direct lending to the students, the government would substantially reduce its bureaucracy, quite apart from enhancing the efficiency of the program.  The loans would also be disbursed more quickly and the delinquent rates significantly reduced as banking professionals instead of civil servants would now be servicing the loans.

            The American program is not without its drawbacks.  The recent scandal where many college financial aid officials were indicted for receiving kickbacks from lending institutions in return for referring students attest to the fact that even a well laid out program can be subjected to abuse and corruption.

            Malaysia could improve on the Americans.  Instead of guaranteeing the full amount of the loan, the government could guarantee only a portion (80 percent) of it.  That would prod the banks to be more diligent in their collections as they would share the loss with the government.

 

Auction Off Existing Loans

            To complete the government’s withdrawal from the student loan business, I would recommend selling off all existing loans.  Package them in marketable quanta of RM1-200 million.  I would also group them based on geographic units, for example, loans taken out by students from East Malaysia or Klang Valley.  Other groupings could be based on where the students studied.  Thus student loans from those attending Australian universities would be packaged together and separately from those studying in United States or Britain.  This would encourage Australian, British and American banks to bid on these loans as they could use their vast domestic database to trace the borrowers.

There could be groupings based on the field of study.  Loans given to would-be doctors should fetch a premium price.  Those doctors would be easy to trace, and they are also likely to have a high income.

Selling these student loans would effect immediate savings in at least two ways:  one by dispensing with the current massive but ineffective bureaucracy, and two, by getting a fresh infusion of badly needed (albeit discounted) funds right away from the commercial buyers of these loans.

As with America, I would give these borrowers the option of forgiving their loans in whole or partially if they were to enter public service, provided of course their services and skills are needed.  I have in mind here especially the doctors and other professionals.

 

Income Contingent Repayment (ICR) Loans

An innovative scheme, the brainchild of the late Nobel laureate in Economics Milton Friedman, is the Income Contingent Repayment (ICR) loans.  Unlike traditional loans with their defined interest rates and amortization periods, borrowers would repay their ICR loans based on a percentage of their future income and for a specified period.

I propose 10 percent of the borrowers after-tax income for a duration double the loan period.  Thus if the loan was given out over four years, the student would have to pay 10 percent of his or her income for eight years after graduation.

If the student were to secure a lucrative job, he or she could end up paying considerably more.  Conversely if the student chooses a less well-paying but professionally more satisfying career like research or teaching, he or she would not be severely burdened.

Students would have to choose this option at the time the loan is being disbursed.  Yale had this kind of program.  It was doing so well that the financially successful borrowers were complaining that they were paying way beyond what they had borrowed.

This ICR scheme has an element of risk sharing associated with it; thus it should be more Sharia-compliant as compared to the traditional student loans with their fixed interest rates and repayment schedule.  Additionally, it might just encourage our young to opt for lower paying pubic service jobs like teaching.

The government’s present student loan scheme needs a major overhaul.  It is expensive, inefficient, and not serving the needs of the students or the nation.

This entry was posted on Sunday, May 6th, 2007 at 5:15 pm and is filed under Malaysia Today. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.