Will Student Debt Forgiveness Affect the Economy?

PUBLISHED Aug 27, 2022, 5:23:03 PM        SHARE

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Student loan forgiveness was a political hot topic during the 2020 Democratic presidential primaries, and America played a "will he or won't he" game with Joe Biden for the first year and half of his presidency. After much anticipation, Biden finally unveiled his student loan forgiveness plan: if your annual income is less than $125,000, you are eligible for $10,000 of student loan forgiveness...doubled if you were a federal Pell Grant recipient. Of course, the political reactions have been fast and furious! Some liberals argue that the forgiveness is too small to be truly meaningful, while most conservatives argue that the forgiveness is a slap in the face to those who either already paid off their student debt or chose not to go to college.

How Could the Forgiveness Affect Inflation?

With millions of former college students not having to pay back $10,000 - $20,000, could there be an increase in inflation? Some economists say "yes" because demand will inevitably rise. Not saddled with as much student debt, people are going to buy more stuff. Others say that the effect on inflation will be minimal, if not completely zero. Part of the reason for an expected net zero effect on inflation is the resumption of student loan payments in 2023. Sure, some student debt got shaved off, but debtors have not had to pay on their balances since the Covid pandemic hit.

I have to side with those who argue that the student loan forgiveness with not cause inflation. With as bad as inflation has been, the Biden administration wouldn't risk any increase in inflation, especially less than three months before the midterm elections. And with the student loan moratorium in place since 2020, its likely that most people with student loan balances will not change their spending much.

How Could the Forgiveness Affect Housing?

The housing market has entered a recession as a result of interest rate hikes by the Fed. However, the student loan forgiveness may slightly increase the number of prospective home buyers going into 2023. While those with significant student debt loans won't likely find themselves suddenly shopping for homes, almost 20 million people will see their student loan balances eliminated by the $10,000 - $20,000 forgiveness. If some of these folks were waiting to repay their entire student loans before buying houses, they could enter the housing market in significant numbers to reverse the current housing market recession. But it won't cause a return to the boom, as interest rate hikes will have a much greater overall impact on demand for mortgages.

How Could the Forgiveness Affect Stocks?

Similar to the housing market, the result is likely to be a small positive movement. Due to the Covid payment moratorium, most people with student debt won't suddenly go from paying on their loans to not paying. Therefore, there won't be an influx of new cash into the stock market. However, it is almost inevitable that some of the student loan forgiveness will find its way into increased investment by college graduates. Moves by the Fed and issues with global supply chains will still have greater impact on the stock market, but consumer confidence and investor confidence boosts related to the student loan forgiveness could come to play a substantial impact.

Whether the U.S. economy enjoys a jolt of consumer confidence remains to be seen, but it is likely to be minimized by political resistance to the loan forgiveness.

What About Taxes?

Supporters of the plan argue that it will cost about $240 billion, while opponents think it will ultimately cost over $400 billion. Of course, most people want to know how much of a tax hike they can expect! This remains to be seen, but an average figure would be about $2,000 per taxpayer. Democrats will likely try to impose taxes that place most of this burden on corporations and higher earners, or pay for it via deficit spending that adds to the national debt.

Given the popularity of deficit spending, I figure this is the route that will be taken. After the deficit spending from the Trump era, Democrats will likely use the "well, they did it before us" argument. It may not be the most fiscally responsible option, but it will avoid sapping economic growth by increasing taxes.

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