Education Debt: The Next Bubble? The Next Bailout?

When the government subsidizes a good or an activity, it causes individuals to consume more of it than they would otherwise. The subsidy decreases the effective price to consumers, and they will consequently consume a higher quantity. This is true across all industries, including housing, agriculture, and energy.

Education is another product that is over-produced and over-consumed when subsidized. The New York Times recently ran an article that illustrated how federal subsidy is partly responsible for the over-production (and subsequent over-consumption) of law school.

Certainly, there are social benefits to education. An educated population is, in general, a very good thing. Even if they don’t use skills that they developed through higher education, it’s probable that janitors and flight attendants are leading more fulfilled lives as a consequence of their education. Perhaps the time that they spend outside of work, in leisure, is more fulfilling than it would have otherwise been. Although a particular project may have some social benefits, when that project is subsidized with taxpayer monies, it should be weighed against the costs.

On the other hand, there are also negative consequences to having a high number of degree holders. As a greater number of people seek higher education, they compete for the jobs that require that knowledge. According to the signaling model, individuals have an incentive to accumulate degrees to indicate to employers that they are of higher quality than others in the labor supply. In the presence of degree inflation, it will become increasingly difficult to distinguish between the quality of individuals (i.e., it will mute the signal), and employers will demand even more education.

Degree inflation is evident in the status quo. This is why 17 million degree-holders are in positions that do not require a degree. Many jobs that may have required only a high school degree in the past now require a college degree. Based on the New York Times article, it seems that jobs that may have required a college degree in the past now require a law degree. The marginal number of individuals that decide to return to graduate school could otherwise be contributing to economic growth in the private sector.

By knocking the price system out of equilibrium, as it does with subsidies, the government causes a misallocation of resources. This produces a market bubble that will burst as soon as the subsidy ends. Is education debt the next bubble to burst? Will there be an education debt bailout?

The cost of such a bailout would ultimately fall to the taxpayers. The federal government cannot afford it — adding to the debts of debt-laden law students would certainly exacerbate the federal deficit.

Photo Creditj.o.h.n walker