The Federal Reserve Bank of New York publishes the always-interesting Quarterly Report on Household Debt and Credit. The Q4 2017 version came out recently.
In total, Americans carried $13.15 trillion in debt as of year-end 2017.
Most of it is mortgage debt—about 71% of the total, if you include home equity loans.
Much to our surprise, the next-largest category isn’t auto loans or credit cards. It’s student loans, which are now 10% of total debt. Their share has been growing steadily.
This might be okay if the debt enhanced the student’s financial security, but for millions of Americans, that’s not what has happened.
Borrowers don’t achieve the desired results but remain stuck with the debt anyway.
While delinquency rates for other forms of debt fell after the recession, student loans didn’t. As of year-end 2017, about 11% of nearly $1.4 trillion in student debt was at least 90 days delinquent.
It’s actually worse than that.
Roughly half of student debt is held by borrowers who aren’t required to make payments yet. That’s because they are still in school, unemployed, or otherwise excused. Much of that debt would likely be delinquent too.
Also important: The delinquent loans tend to be small (less than $10,000) and held by borrowers who never earned degrees.
These borrowers probably thought they were doing the right thing. They wanted decent jobs and saw that having a college degree was necessary to get one.
So why is college the key to gainful employment? It hasn’t always been so.
It’s because employers require a degree as a job qualification... and that’s partly the fault of IQ tests.
In 1971, the US Supreme Court decided a case called Griggs vs. Duke Power Co. The subject was employment requirements.
Duke’s practice—and many other companies at the time—was to give job applicants an IQ test. Supposedly, this let them hire qualified people, but some companies also used tests to discriminate by race. The 1964 Civil Rights Act banned pre-employment tests that were not “a reasonable measure of job performance.”
The court ruled that Duke’s tests were too broad and not directly related to the jobs performed, which made them illegal.
That left a problem, though. How were employers supposed to evaluate job applicants without illegally discriminating?
Employers really want to know two different things about prospective workers:
Those soft skills are harder to judge but critically important. They’re also what the Supreme Court made hard to test.
College sort of requires those same soft skills. A degree may not give you much useful knowledge, but it shows you have some basic intelligence and literacy. It also shows you will jump through hoops if your organization tells you to. Employers value those qualities.
The Griggs case said nothing about educational requirements. Employers remained free to require high school diplomas or college degrees… and the ruling gave them a big incentive to.
College degrees are convenient, legal substitutes for the kind of testing employers haven’t been able to use since the 1970s. So apart from whatever you learn in college, merely having the credential became necessary to career success.
As a result, everyone in the equation made certain choices.
This made college more expensive, forcing students to borrow more and more money.
Politicians jumped in to promote and guarantee those loans. And here we are.
In the Griggs case, the US Supreme Court effectively granted colleges a monopoly. They can discriminate based on a long series of tests that lead to a degree. Employers can’t.
Like most monopolies, this one is inefficient. It creates unpayable debt that burdens students. Some of it eventually falls on taxpayers. Not ideal.
Methods exist to evaluate prospective workers without requiring college degrees, and without racial or other illegal discrimination. But there’s no incentive to try them when you can just screen out the non-college graduates and accomplish the same thing.
Resolving this impasse would help our debt problem and probably our employment problem as well. But the losers would be colleges and educational lenders, so don’t expect them to cooperate, unless someone forces them to.
My partner John Mauldin predicts an unprecedented crisis that will lead to the biggest wipeout of wealth in history. Most investors are unaware of the pressure building right now. Learn more here