Student Loan Debt Is Not Hurting The Economy

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Kristina Washer walks across the stage after receiving her honors diploma at the College of The Holy Cross 2017 commencement exercises in Worcester, MA on Friday, May 26, 2017. (Photo by Gail Oskin/Getty Images for Stellar Productions)

Student loan debt has risen to a record high of $1.4 trillion and this rise has been accompanied by a corresponding mountain of stories about how this debt load is keeping millennials from buying houses or cars and is slowing the economy. Such stories come from sources as varied and impressive as Business Insider, Bloomberg, Time, and even the Chronicle of Higher Education. The evidence on car and home buying is somewhat mixed (see here and here), but it is possible that student loan debt is keeping some millennials from buying homes. The story about student loan debt hurting the economy, however, is completely false and misguided.

The mechanism by which student loan debt might lead to delays in those borrowers buying homes is clear. First, it is harder to save up a down payment while making student loan payments. Second, the student loan payments reduce the amount of disposable income available for mortgage payments, meaning that the person can afford a lower-priced house than without the student loan debt.

It is possible that student loan borrowers manage to offset their student loan payments by cutting other expenses, or by earning more thanks to those college educations, so the effect is not certain, but it is plausible. The idea that student loan debt is hurting the economy in general, however, is not plausible because of the way borrowing and lending money works.

When college students borrow money to fund their educational and related expenses, that raises their spending. That increase in spending by college students (on tuition, rent, food, books, and the like) is exactly offset by the foregone spending of those who lend them the money. In order to lend money, somebody else first has to not spend it (i.e., save it). When a former student later pays back those student loans, the process is reversed. The borrower has less to spend, but the lender is now collecting payments and can increase spending by an exactly equal amount.

Borrowing and lending money do not make consumer spending larger or smaller; they simply change who is doing the spending when. The borrower spends more now, less later; the lender spends less now, more later. A change in who is spending, but not how much is being spent in total does not have any effect on the economy.

So while it makes a good story that debt-laden millennials are dragging down the economy, it is not credible. Making loan payments doesn’t slow consumer spending, it only switches the person behind the spending. Any effect from such a transfer of spending power would be miniscule, based on differing domestic content in purchases.

Indeed, if student loan debt has any effect on the economy it is a positive effect. After all, the knowledge gained by the students taking out loans increases their human capital and should boost the nation’s labor productivity and potential GDP. In the long run, a more educated population should be a wealthier population.

The misconception that student loan debt is depressing consumer spending rests on ignoring the fact that student loan payments do not disappear from the economy, they simply get spent by different people—the ones who lent the money in the first place. Lending simply allows both parties, the borrower and the lender, to transfer their spending across time periods. It changes who spends right now (and later), but not the total spending in the economy. There are plenty of suspects available to explain our slow economic growth, but student loan debt is not guilty.

