How the Financing of Colleges May Lead to Disaster!

Bill Clinton at a summit on youth and productivity organized by the for-profit Laureate International Universities, Mexico City, February 2015
Mario Guzmán/EPA/Redux
Bill Clinton at a summit on youth and productivity organized by the for-profit Laureate International Universities, Mexico City, February 2015

When the financial industry—banks, hedge funds, loan companies, private equity—gets too involved in any particular activity of the economy or society, it’s usually time to worry. The financial sector, which represents a mere 4 percent of jobs in this country but takes a quarter of all private sector profits, is like the proverbial Las Vegas casino—it always wins, and usually leaves a trail of losers behind. So perhaps alarms should have been raised among both financial regulators and educational leaders when, two decades ago, for-profit colleges began going public on the NASDAQ and cutting deals by which private equity firms would buy them out. Apollo Group, the parent company of the University of Phoenix, was one of the first, becoming a publicly traded corporation in 1994, at a time when the university had a mere 25,000 students. By 2007 the university had expanded to 125,000 students at 116 locations. This was growth pushed by investors who viewed students as federally subsidized “annuities” that, via their Pell Grants and student loans, would produce a fat and stable return in the form of tuition fees.

It’s an issue that’s been front and center in recent months, not only with the scandal surrounding Trump University and the recent closure of the ITT chain of for-profit colleges, but also the news that Bill Clinton was, during five years, paid a total of $17.6 million to serve as an “honorary chancellor” of the for-profit college company Laureate International Universities. The sector has been raking in money for some time now. Throughout the roaring 1990s, for-profit college and university enrollment grew by nearly 60 percent, compared to a mere 7 percent rise in the traditional nonprofit sector.

As one Credit Suisse analyst looking at the $35 billion industry put it, “it’s hard not to make a profit” in the for-profit education sector. The stock prices of for-profit colleges and universities (FPCUs) reflected that; they rose more than 460 percent between 2000 and 2003 with much support from public subsidies. Their promotional budgets rose, too—Apollo recently spent more on marketing than Apple, the world’s richest company.

But education, sadly, did not benefit. As A.J. Angulo outlines in his detailed history of the for-profit sector, Diploma Mills, that’s because such schools spend a large majority of their budgets not on teaching but on raising money and distributing it to investors. In 2009, for example, thirty leading FPCUs spent 17 percent of their budget on instruction and 42 percent on marketing to new students and paying out existing investors. Is it any wonder, then, that investigations into the industry from 2010 to 2012 found that while it represented only 12 percent of the post-secondary student population, it received a quarter of all federal aid disbursements and was responsible for 44 percent of all loan defaults, many of them by working-class students who either couldn’t afford to graduate or, once they did, found their degrees were largely useless in the marketplace? As one critic of the system puts it in the book, “There is no way to escape being a slave to the quarterly report. Quality education and higher earnings are two masters. You can’t serve both.”

All this has huge ramifications not just for the victims of the for-profit sector (many are now waging successful lawsuits for debt relief) but for higher education as a whole. For-profit colleges and universities don’t exist in a vacuum. Their rise has happened in tandem with a fall in state funding for public education, budget squeezes at nonprofit state colleges, rising college fees (according to Bureau of Labor Statistics data the price of college and textbooks has tripled since 1996), a growth in student credit availability and debt, stagnant wages, and a rising sense of hysteria—sometimes justified, other times not—that the system of higher education in America is broken and must be fixed.

Certainly all these factors have been huge issues in the 2016 presidential campaign, propelling the unlikely success of Bernie Sanders during the primaries. One of the most memorable moments of the Democratic National Convention came during Sanders’s speech, when young delegates wept as he endorsed Hillary Clinton. She has, in turn, been under political pressure to take up his banner; her platform now includes a mandate to make in-state tuition free at public colleges and universities for all Americans whose families make up to $125,000 a year.

Thoughtful people can disagree on whether college should be free, and if so for whom, but it’s a timely and important question. As Harvard academics Claudia Goldin and Lawrence F. Katz made so clear in their 2008 book, The Race Between Education and Technology, economic growth and national competitiveness are predicated on education staying ahead of technology, thereby enabling workers with higher and higher skill levels to be more productive. Economic growth basically depends on productivity plus demographics. Since the 1980s this link has been broken, as educational attainment in the US has faltered—over the last thirteen years, the US has ranked third from the bottom among OECD nations in gains in education attainment beyond high school.

One result, according to Goldin and Katz, as well as any number of other experts who study the topic (see William G. Bowen and Michael S. McPherson’s Lesson Plan, for instance), is slower economic growth. That creates a destructive snowball effect—lower growth equals less money in tax coffers and less public funding for educational institutions, which contributes to worse educational outcomes. And in an era in which human talent is a scarcer resource than financial capital, it also means slower economic growth. In the public sector, which educates 80 percent of American students, state funding hit a peak in 1980 and has been falling ever since. Not surprisingly, the decline in funding has hit working-class students the hardest, a point that Sara Goldrick-Rab lays out sharply in Paying the Price. While the average net price of college education as a percentage of family income has risen moderately for the top 75 percent of the socioeconomic spectrum, it has skyrocketed for the bottom quartile, who paid 44.6 percent of their income for a degree in 1990, versus 84 percent today.

All of these changes have their roots in the rise from the late 1970s onward in “neoliberal” economic thinking—which assumes incorrectly that the marketplace is always fair and efficient and better than public institutions at allocating resources—and the subsequent financialization of everything. Neoliberal theory, or at least the twentieth-century, laissez-faire reincarnation of it, assumes that markets empower everyone; in reality powerful institutions, and in particular financial institutions, end up dominating both the economy and society.

“Financialization” is an academic term for the trend by which Wall Street and its methods have come to reign supreme in America, permeating not just the financial industry but also many other parts of both the private and public sectors. It includes such basic matters as the growth in size and scope of finance and financial activity in the economy (the size of the industry as a percentage of GDP has more than doubled the last forty years); the rise of debt-fueled speculation instead of productive lending; the ascendancy of shareholder value as the sole model for corporate governance; the proliferation of risky, selfish thinking in both the private and public sectors; the increasing political power of financiers and the CEOs they enrich; and the way in which a “markets know best” ideology remains the status quo in many academic and policy circles.

University of Michigan professor Gerald Davis, one of the preeminent scholars of the trend, likens financialization to a “Copernican revolution” in which business and society have reoriented their orbit around the financial sector. This revolution is often blamed on bankers. But it was facilitated by shifts in public policy, from both Republicans and Democrats, and crafted by the government leaders, policymakers, and regulators entrusted with keeping markets operating smoothly. Greta Krippner, another University of Michigan scholar, whose Capitalizing on Crisis is one of the most comprehensive books on the topic, believes this was the case when financialization began its fastest growth, in the decades from the late 1970s onward. According to Krippner, that shift encompasses Reagan-era deregulation, the further deregulation of Wall Street under Bill Clinton’s administration, and the rise of the so-called ownership society under George W. Bush that pushed property ownership rates higher and further tied individual health care and retirement to the stock market.

The financialization of education was part of this fundamental change as well, a point that student debtor turned activist Cryn Johannsen lays out in Solving the Student Loan Crisis. As she puts it, “students…are defined as consumers seeking out personalized education and training that will make them marketable,” a concept that disconnects higher education from its value as a public good. Of course, American higher education was never completely devoid of mercantilism (for-profit business and trade schools have been around since the nineteenth century) and it’s virtually never been free; but payment for it was in the past split more evenly between families, the government, and philanthropy, and the civic benefits were as highly valued as the economic ones (which, crucially, were seen as accruing to the nation, rather than just the individual).

As Bowen and McPherson describe, as far back as the colonial era there were public efforts to help students attend college. The Morrill Act of 1862, for example, which gave land grants for the founding of many of America’s best-known public universities, created a system by which states would subsidize public university tuition, making it affordable for middle-class students to go to college. Private universities did the same via endowments and fees paid by the elites.

The poor were mostly left out of the equation until after World War II, when it became clear that America needed a more highly trained workforce to ensure growth in an increasingly competitive international landscape (and, by the 1960s, a burgeoning information economy). The federal government began with offering World War II veterans grant and loan programs like the GI Bill and later, as part of President Lyndon B. Johnson’s Great Society program, the Pell Grant and the Guaranteed Student Loan Program, later renamed the Stafford Loan. As Beth Akers and Matthew M. Chingos note in Game of Loans, LBJ had personal reasons to make college more affordable—he had been a student debtor himself who struggled to pay off $220 in loans ($3,100 in today’s dollars) from Southwest Texas State Teachers’ College, as well as a private student loan and an auto loan on which he eventually became delinquent (he had to hide the car so the lender wouldn’t repossess it).

Federal programs like these still provide a huge amount of support, accounting for 67 percent of all student aid in 2014–2015. Why, then, do we have a $1.2 trillion student debt bubble? There are several reasons. First and foremost is that while federal support for higher education has remained relatively steady over the last few decades, individual state support for students and funding for universities has been falling. One of the main reasons for that drop was the tax revolt led by Grover Norquist and supported by the Koch brothers and other rich conservative donors. Particularly in red states like Texas, Virginia, and North Carolina, tax cuts came at a time when state budgets were already taking hits from things like the savings and loan crisis, the dot-com bubble and subsequent recession, and most recently and dramatically, the financial crisis and recession of 2007 and 2008. As Akers and Chingos point out, before 2008, states provided roughly $9,000 per student for higher education. Today, that number has fallen to around $7,000, the lowest level in thirty years. This has resulted in higher announced prices to attend many schools; it’s no accident that the public school with the highest list price (New Hampshire) also has the lowest level of state funding.

Higher attendance over the last two decades has also increased costs (and led to more debt, given the increased number of students trying to complete degrees). So has an open race for richer students—colleges all too often invest in luxury facilities to attract more full-fee-paying students, or, in the case of the for-profit sector, take enormous profit shares (margins of 30 percent mirror those in certain parts of the financial sector itself). But lower state funding is the principal reason that prices have risen at nonprofit public colleges and universities at nearly twice the rate of private four-year institutions since 2000.

That bifurcation, which affects the bottom 80 percent of the socioeconomic spectrum much more than the top 20 percent, has been exacerbated by the growing income and wealth divide over the same period. Tuition costs are rising most for the students who can afford them least, with predictable results. One study in Virginia found that since the 1990s, retention rates for first-year students in the lowest quintile have been 11 percentage points lower than for the top quintile. As Bowen and McPherson put it:

This growing inequality is, in our view, a serious national problem…increases in tuition and fees for all but the most affluent would seem much less onerous if their incomes were increasing as rapidly, or more rapidly, than college costs. We continue to be surprised by how little attention is given to this aspect of the affordability problem—especially by those who choose to assign blame almost exclusively to educational institutions.

Both the wealth divide and the tendency to blame the victim (witness conservatives who use Pell Grant fraud in the for-profit sector as an argument for doing away with public financial aid programs altogether) stem from neoliberal policies and attitudes with their emphasis on market outcomes. Angulo quotes David Salisbury, the former director of the Cato Institute’s Center for Educational Reform, defending for-profit diploma mills, and arguing against more regulation in the for-profit sector:

My gut feeling on diploma mills is the whole idea of having to regulate this is the denial of intelligence of consumer and marketplace. If people want to waste their money buying a diploma from a diploma mill, let them do so.

Yet Adam Smith himself would have said that in order for a market to function fairly and efficiently, all players require equal access to information, a real understanding of market prices, and shared moral values. None of that is true today in the educational sphere. The student loan market, for example, is complex and opaque. Both Pell Grants and the loan system operate as personal vouchers, which puts more responsibility on individuals to track the money needed for payment. Given that most of us don’t have many chances to learn from experience in the education market (we only get a few shots at it in our lifetime, as Bowen and McPherson point out), it’s no surprise that studies show that most students have no idea how the system works. In Game of Loans, we learn that only a quarter of first-year college students can predict their debt load within 10 percent of the correct amount, in large part because students are regularly overpromised financial aid in complex deals that then change year by year, just like the subprime mortgages that blew up in 2008.

Meanwhile, like the risk managers at the too-big-to-fail banks who were oblivious to exploding derivatives on their balance sheets, educational experts don’t have all the information either. In Game of Loans, University of Michigan professor of public policy and student aid expert Susan Dynarski sums up the problem:

Imagine that a big, complicated company holds a huge portfolio of loans, many of which are in default or delinquency. The company’s leadership and some vocal shareholders demand a detailed review but receive a thin and incomplete report from the loan division.

Financial analysts at headquarters want to scrutinize the data. But the loan division doesn’t turn it over. Without better data, the firm can’t move forward.

This dysfunctional enterprise is fictional, but in at least some respects it bears more than a passing resemblance to the United States government, which has a portfolio of roughly $1 trillion in student loans…. The Education Department, which oversees the portfolio, is playing the part of the loan division—neither analyzing the portfolio adequately nor allowing other agencies to do so.

As it is, anyone who wants to understand who’s holding the exploding bag of student debt has to cobble together facts and figures from disparate public and private data.

Donald Trump with Michael Sexton, the president of Trump University, at the announcement of its founding, New York City, May 2005
Bebeto Matthews/AP Images
Donald Trump with Michael Sexton, the president of Trump University, at the announcement of its founding, New York City, May 2005

The similarities between the student loan market and the financial crisis don’t stop there. Aside from the opaque credit market and the increase in asset prices, you’ve got borrowers paying above-market rates (student loan prices, fixed by the government, have not fallen despite near-zero real interest rates), widespread fraud, conflicts of interest between educators and regulators (which are predictably understaffed and underfunded), and a huge industry lobbying on behalf of the sector to keep things as they are. No surprise that the for-profits come off particularly badly in this respect; like the financial industry itself, they have raised a huge war chest to combat legislation, holding back efforts to make the industry more transparent and successfully fighting off numerous lawsuits and regulatory efforts. The money they throw at both marketing and lobbying has prompted a similar increase in spending in those areas within the nonprofit sector.

The student debt crisis is similar to the subprime crisis in another crucial way: predatory practices target the most vulnerable, often using the complex computer models that were employed to make risky mortgages look better on paper. The use of algorithmic models that rank colleges has led to an educational race where schools offer more and more “merit”-based rather than need-based aid to students who’ll make their numbers (and thus rankings on things like the US News and World Report “Best Colleges” list) look better. Profit-making institutions in particular troll for information on economically or socially vulnerable would-be students and find their “pain points,” as a recruiting manual for one for-profit university, Vatterott, describes it. The data can be found in any number of online questionnaires or surveys the students may have unwittingly filled out. As former quantitative trader turned social activist Cathy O’Neil describes in her book Weapons of Math Destruction, the schools can then use this to funnel ads to likely targets, including welfare mothers, recently divorced and out-of-work people, those who’ve been incarcerated, or even those who’ve suffered injury or a death in the family.

Why haven’t educational leaders been more vocal about this crisis? Perhaps because like regulators and politicians involved in the 2008 crisis, they too are victims of neoliberal ways of thinking. Universities have been duped by Wall Street into bad debt deals, just as public municipalities such as Detroit were. New research by the progressive Roosevelt Institute has found that seven of the eight largest universities in the state of Michigan, for example, have gotten involved in risky interest-rate swap deals in recent years, resulting in millions of dollars in unnecessary fees, further raising costs for students. The very idea that a large number of American universities are now involved in swaps that put them far out of their financial depth raises disturbing questions about how their balance sheets are being managed.

But the financialization of education and the debt bubble it has brewed raise a deeper question: Who, exactly, is higher education for? Who is it helping? While a four-year degree does ensure a job paying more than $15 an hour for most graduates, it is no longer a ticket to social mobility for the poorest. Among those who do graduate, debt loads can result in downward mobility. In her Solving the Student Loan Crisis, Johannsen cites a 2013 study by the liberal think tank Demos that found that the average student debt burden for a married couple with two four-year degrees ($53,000) actually led to “a lifetime wealth loss of nearly $208,000.”

Such a burden is a huge economic concern, and not just for millennials. The majority of college graduates in the US now move back home with their parents, often for several years. The class of 2016, the most indebted in history, cannot afford homes, cars, or other trappings of a middle-class life, which is an obvious problem for an economy of which 70 percent is accounted for by consumer spending.

How to fix things? The notion of making four-year college free for everyone is an attractive and politically popular idea (at least on the left), but it would require a debate over competing needs—for example defense—that would likely be stalled in Congress. What’s more, it would disproportionately benefit middle- and upper-class students and their families who actually can afford their debt loads. While a larger proportion of student debt today is being taken on by richer families and those with graduate degrees than, say, ten years ago, it’s important to remember that, as Akers and Chingos put it in Game of Loans, “what matters is not the level of debt, but the borrower’s ability to repay it.” Talking about the poor rarely garners votes, but that’s where the real social and economic benefits of free tuition are to be had. Some 14 million new jobs will be created between 2014 and 2024 in the US, but nearly all of them will require at least a two-year associate’s degree.

We should start by making community college the new high school—a basic necessity for every American—and work our way up the educational and economic food chain from there. We might think of paying for it by cutting billions in taxpayer aid to the for-profit sector. Not only is this sector responsible for 75 percent of the increase in debt defaults over the last decade, but as Angulo wisely points out in Diploma Mills, neoliberal principles should require such schools to compete in the free, rather than publicly subsidized, marketplace. Students who’ve been duped by predatory schools should be given debt relief and/or be allowed to refinance loans at preferential rates. The last thing we need for our economy or our politics is a repeat of the 2008 crisis, during which rich institutions were saved and borrowers got the shaft.

We should also make sure that the degrees being offered actually count for something—too many students are paying far too much for meaningless diplomas in sports marketing or business administration. The ideal of education—that students will be helped to realize their possibilities—is masked by many such courses. It will also require that the government have much better information about the outcomes of education, and much better analyses of them. A national database for higher education that has been proposed by President Obama might be a first step.

Reconsidering and reforming our system of higher education should move beyond debates about whether STEM skills—those promoted by the study of science, technology, engineering, and math—trump liberal arts. We need both, not only because it’s impossible to predict exactly what the jobs of the future will be, but also because critical thinking in any field is the most important measure of economic and civic success. We need a deeper shift in the American system—we must once again start to think about public education as an investment in our future as a nation, the way our leaders did forty years ago. It is, after all, an asset, rather than a cost, on our national balance sheet.