June 10, 2015
Several news articles have reported on the potential costs of the Obama administration’s plans to forgive some of the student debt associated with Corinthian Colleges. Corinthian is a for-profit college that recently went bankrupt. It has been accused of using fraudulent tactics to get students to take out large loans to pay for its tuition.
In projecting the costs to the government, these pieces neglect to take account of the positive effect on incentives that eliminating this debt would have. As it stands, heavily indebted students could expect to have a large portion of any money they earn taken away from them to repay their debts. This acts as a strong disincentive to work (or possibly an incentive to work off the books) in the same way that a high tax rate would provide a disincentive to work.
It is reasonable to believe that these former students will work more and pay more taxes if their debt is forgiven. This would offset some of the money that the government would lose by forgiving the debt. While this offset is not likely to be close to the face value of the debt, it is very plausible that in many cases the additional tax revenue would be comparable to what the government would eventually collect on the debt if it were not forgiven. (Much of the debt will never be repaid regardless of whether the government forgives it.) In other words, forgiving the debt of former Corinthian students may be much less than indicated in these pieces.
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