Varsity funding needs effort by banks, government and others
What role should banks play in funding university education? The #FeesMustFall movement, in as much as it has a consolidated view on anything, says none. The banks themselves are noncommittal.
Yet the Heher commission of inquiry report, which has been much commented on but little read, says they should have a central role.
Could it really be true that the much-maligned banks could be the source of a solution to a serious social problem? I think so, but let’s not stop at the banks.
Let the whole of the private sector come up with ways to lend to students, supported by a government-backed, risk-mitigation scheme. The report advocates for an “income-contingent loan scheme”.
Heher’s vision, while hedged with calls for further research and development, is of a publicprivate partnership through which banks make loans to students, then rely on the government to purchase the loans and collect them through salary deductions managed by the South African Revenue Service. The positive in this vision is that banks would solve some of the administration and distribution challenges. The negative is that it does not go beyond that.
Banks are already providing other public services, such as the distribution of ID cards and passports, simply because their distribution capabilities are more efficient. The Heher proposal is essentially the same — banks would distribute a government loan rather than their own loans. The banks would originate the loans and then pass them on to the government, which would carry all the risk.
One can understand Heher’s thinking. It is extremely difficult for a bank to determine which students are a good credit risk based on their future earnings. Banks do lend over R1bn a year to students, but they rely on parents’ guarantees to do so.
Most credit thinking is based on assessing the assets that can be held as security. To the extent that there is unsecured lending, it is up to recipients with proven income that can be relied on to support repayments.
It is good that banks are driven to find ways to minimise risk. They are, after all, using the savings of the public to lend. If we remove all risk from the banks, they have less reason to work actively to support borrowers’ ability to repay.
In this case, the way to make sure that students can repay their loans is to ensure they have jobs when they graduate with salaries above the threshold.
Banks’ unsecured loans have an arrears rate of about 8% while home loans have a rate of less than 1%. We want banks, and other lenders, to carry some risk from a student loan scheme with arrears in that range. That would incentivise good practices, like ensuring students are genuinely eligible and do not borrow more than they need. A scheme should limit lenders’ risk, but not eliminate it.
The public sector should take on a portion of the risk. For instance, it could guarantee 90% of students’ monthly repayment obligations, in return for lenders being required to accept applications from all university offer holders. This risk level could be set by the market: lenders could bid to be part of the government scheme by pitching a certain percentage guarantee they would require from the government. The really innovative lenders would require smaller government guarantees because they’ve thought up very clever post-graduation employment schemes.
The tax agency could collect on the loans, much like a similar Australian scheme. That would enable the scheme to have full insight into the graduate’s earnings in order to determine repayment amounts and minimise the costs of collection. Where collections are less than the instalments required, the government good could make the proportion set by the competitive process. That means lenders and the government have incentives to support employment schemes.
Unfortunately, the Heher commission’s vision is very bank-centric. There is no reason to restrict such a scheme to banks. The opportunity should be thrown wide open to innovation. New entrants using cellphones or who-knows-whatfuture technology might be able to do better than the banks.
Insurance companies or other asset holders may create and securitise loan portfolios too. By widening the type of firm that could participate, there would be more competition and more innovation. Students could also choose the lowest-cost provider to minimise their future obligations.
Such an income-contingent loan model would make university “free at point of use”. That means no student would be excluded on the basis of their financial position.
This may, however, be a pipe-dream. Our political zeitgeist is not conducive to finding good private sector solutions to public problems. Already, the prominent role of banks in Heher’s report has led to howls of outrage. That is unfortunate. Our problems need innovation and the private sector is best able to deliver. The hard part is figuring out the right policy environment to trigger it.