Analyzing Student t Loans: A User Guide

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A l i

St d t L

Analyzing Student Loans:

A User Guide

Bruce Chapman

Crawford School of Economics and Government Australian National University

Kiatanantha Lounkaew Dhurakij Pundit Universityj y

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Outline

Introduction and Context Professor Bruce Chapman

 Introduction and Context, Professor Bruce Chapman

 Important features of student loans  Important features of student loans

 What to analyze?  What to analyze?

 Interest rate subsidies and repayment burdensp y

 Comparing normal loans to ICLs

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Important Features of

Student Loans

 Student loans design

 Interest rate subsidies

 Repayment burdens

 Example from Thailand

A different way: ICLs  A different way: ICLs

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What to Analyze?

 Implicit interest rate subsidies (Iss)  Repayment burdens (RBs)

 Default

 Trade-off between ISs and RBs  Trade off between ISs and RBs

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How to Analyze Implicit

Interest Rate Subsidies

 The role of interest rates

 Implicit interest rate subsidies  Implication for student loans

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The Role of Interest Rate

 Even without inflation, $100 today will not be equal to $100 next year.q y

 This is because of the role of interestThis is because of the role of interest rates.

 A policy design which deals with the stream of money overtime has to take stream of money overtime has to take into account the role of interest factor.

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Implication for

Student Loans

•The different

between the initial Subsidy

between the initial outlay and the PV of total repayment can be thought of as

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Implication for Student Loans

•By imposing real rate of interest,

i li it i t t t

implicit interest rate subsidies can be

eliminated eliminated.

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Repayment Burdens

Repayment at time t

RB=

RB

Income at time t

• Higher repayment burdens come from •Higher interest rateHigher interest rate

•Higher loan size

Sh t t i d

•Shorter repayment period • Low graduate incomes

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Repayment Burdens:

How Much Is Too Much?

 A rough yardstick, used in several countries,

is that loan repayments should not exceed 8 to 10% of a graduate’s income (Woodhall, 1987).

 Salmi (2003) notes that in Venezuela the

l “ h bli h d

government loan agency “…has established 15 per cent as the ceiling for monthly

repayments ” repayments.

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Default

 Knowledge about graduate income

distributions together with the 8-percent rule allows us to make a rough prediction about potential defaults.

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Case Study:

Th Th i St d t L

F d

The Thai Student Loans Fund

(SLF)

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Important Features of the SLF

 Annual repayment is in %

of total loan 12

14

% of the loan

 6-year interest grace

period 8

10

 2-year repayment grace

period 2

4 6

period

 1% nominal interest rate

( 3 l ) 0 2 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 Year (-3 real interest)

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Important features of the SLF

60,000 Baht Loans Repayments 40,000 50,000 20 000 30,000 10,000 20,000 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 Year

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SLF Implicit Subsidies

Sources of Subsidies Subsidies (%)

Interest rate subsidies ₅₄

Default 15 Default 15 Administrative cost 3 T t l I li it 72 Total Implicit subsidies 72

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SLF RB: Assumptions and Method

 The total debt size is 200,000 Baht (2008). This is a

weighted average of the SLF loan size in 2006

adjusted by inflation (assumed to be 4% per annum).

 Th t l l t d di t th

 The repayments are calculated according to the

repayment rules discussed above.

 Hardships are calculated for Q20 male and female

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M l A

I

P fil

Male Age-Income Profiles

Annual income (Baht)

500,000 600,000 Q75 400,000 Q50 200,000 300,000 Q20 100,000 Q20 0 22 23 24 25 26 27 28 29 30 31 32 33 34 35 36 37 38 39 40 41 42 43 44 45 46 47 48 49 50 51 52 53 54 55 56 57 58 59 60 Age

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Female Age-Income Profiles

500,000 600,000

400,000 Q75 200,000 300,000 Q50 100,000 Q20 0 22 23 24 25 26 27 28 29 30 31 32 33 34 35 36 37 38 39 40 41 42 43 44 45 46 47 48 49 50 51 52 53 54 55 56 57 58 59 60 Age

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SLF RB: Results Q20

4 0 % 4 5 % % o f t o t a l inc o m e 3 0 % 3 5 % 4 0 % 15 % 2 0 % 2 5 % F emal e 0 % 5 % 10 % M al e 0 % 18 19 2 0 2 1 2 2 2 3 2 4 2 5 2 6 2 7 2 8 2 9 3 0 3 1 3 2 3 3 3 4 3 5 3 6 3 7 3 8 3 9 4 0 4 1 A ge

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Assessing Potential Default

 Use the 8-percent rule as a cutoff.

 Calculate proportion of graduates whose

incomes fall below the 8-percent benchmark.p

 If the repayment is $200 per month, t e epay e t s $ 00 pe o t ,

graduates with income of $2,500 or lower are potential defaulters ($200/0.08=$2,500).

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Illustrating Interest Rate

Subsidies-Repayment Burden

p y

Trade-Off.

30% % debt collected 25% 30% % debt collected = 47.0% 20% 10% 15% 5% * 0% 0% 1% 3% 4% 5% 6% 8% 9% 10% 11% 13% 14% 15% 16% 18% Nominal interest rate charged r*=6.2%

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Basic problems with normal student

loans in developing countries

 High interest rate subsidies make repayment easier

repayment easier

 But there are still big problems for low income graduates with repayment

income graduates with repayment burdens

Eliminating interest rate subsidies  Eliminating interest rate subsidies

makes repayment burdens huge for most graduates

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A different approach: ICLs

 What is an ICL?

 Why do we have them?  Why do we have them?  Where do they exist?

h h bl h

 What is the major problem with ICL: collection, collection, collection

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Summary

 Student loans needed

 Normal loans have high interest rate  Normal loans have high interest rate

subsidies AND high repayment burdens Eliminating subsidies means impossible  Eliminating subsidies means impossible

repayment burdens

l h bl b h

 ICLs can solve these problems but they have to be collected properly, usually

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