A Different Approach to Private Student Loans

June 1, 2016

Private student loans could function more effectively -- and be a more useful tool for helping students pay for postsecondary education -- if lenders made them using criteria such as institutional quality and the likely return on a student's investment rather than credit scores and co-signers, the authors of a new report from the American Enterprise Institute argue.

The authors, Andrew P. Kelly and Kevin J. James, say that student loans made by non-government lenders -- which have shrunk to under 10 percent of all loans disbursed to students -- could play a more central role if they are were based more on market forces and if they were not backed by significant federal guarantees.

"Guarantees reinforce the most significant flaw in the current system: loans are given out with little regard for whether students will be able to pay them back," Kelly and James write. "In contrast, the promise of new ii forward-looking lenders is that by underwriting based on students’ potential -- rather than their background -- these organizations can expand opportunity while strengthening market discipline. Greater market discipline, in turn, can foster a system that is more affordable and higher quality."

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