A Plan for Debt

© Josh Sager – June 2012

Debt, whether originating from student loans, credit cards, mortgages, or healthcare, has become a serious problem in the United States. The mortgage crisis, and by extension the housing crisis, was a debt-driven catastrophe: it was the result of widespread inability of Americans to pay their debts in the face of predatory lending and job loss. In student loan debt alone, Americans owe over $1 trillion. When this sum is combined with debt from mortgages, credit cards, and medical expenses, we have a massive and rapidly growing debt problem in the USA, with no agreed-upon solution. The United States is rapidly becoming, if not already, a nation of debt. A large portion of the population is locked into a cycle of failed repayment and mounting interest, with no way out.

What should be done? I would argue that there are several initiatives that could widely ameliorate the negative effects of debt in the USA: adjustments of principle balances and interest rates for mortgage debt; punitive forfeiture of debt balance if a lender is shown to have engaged in fraud; federal assistance to students with loan debts upon graduation and the possible removal of student loan debt in bankruptcy; and finally, increased regulation of interest rates to reduce the prevalence of predatory lending. I will consider each of these in greater detail.

One effective way to mitigate mortgage debt, thus allowing people to remain in their homes, while allowing the banks to retrieve some of their money, would be to legislate a deal in which banks adjust the principle loan and interest rates so that they are in line with the actual value of the property. By reducing the principle loan and interest rates, more people would be able to afford to keep up with their mortgages, thus would be able to keep their homes. This would, in turn, increase the value of the surrounding houses and improve the general health of the housing market in the United States. The federal government could compel such a deal between banks and the banks homeowners by threatening to return to banks their toxic mortgage assets, as allowed for in the current agreement between Fannie Mae and the banks, thus swamping them if they refuse to renegotiate mortgages.

In addition to this renegotiation with banks, there should be serious consequences for any lender who engages in fraudulent activity. I support total forfeiture of both the remaining principle loan and interest in any case where the bank engages in fraud. Banks should not be allowed to benefit from illegal practices, and people should not have to bear the costs of fraud. Practices that should cause forfeiture include, but are not limited to, the intentional misleading of prospective borrowers into high-risk mortgages, intentionally inflated interest rates, foreclosure despite up-to-date payments, and the use of robo-signing (systematic signing of loan papers by people who had no involvement in the process). By instituting severe monetary punishment on perpetrators of fraud, we can disincentivize fraud, as well as help its victims recover their rightful assets. Currently banks profit from fraud. We need to rewrite — and enforce — laws to ensure that fraud does not pay.

Student loan debt is a crippling weight on many graduates today. Unless a student comes from a wealthy family or receives a scholarship, it is likely that any private university (and many public universities) will cause thousands in loan debt. Because of a 1976 change to bankruptcy law, this debt is incapable of being removed through a declaration of bankruptcy, thus making it impossible to escape even in the event of financial ruin. In order to address this situation, I suggest several policies. First, student loan debt should able to be removed by bankruptcy, just like most other types of debt. Second, the federal government should create a national education fund in order to assist with the loans of all students who successfully graduate and qualify for assistance. This would be similar to Pell Grants, but on a much wider scale. Finally, student loan debt repayment should be capped at a percentage of annual income so as to increase the affordability of loans. Education increases the productivity of our entire society. When education becomes more affordable, everyone benefits — even those who do not directly receive debt assistance.

Banking institutions which give out loans must be heavily regulated in order to prevent abusive practices. Unfortunately, current laws are almost universally too lax and require a review. Banks should not be allowed to charge extortionate interest rates or hidden fees. Terms of use should not be misleading. A complete review of banking laws by experts, not lobbyists, would allow our government to identify future troubles and prevent the perpetuation and worsening of our country’s debt crisis.

While there are numerous ways to deal with a debt crisis, some argue that debt forgiveness (or “debt jubilee”) would be the most effective way to deal with the issue of debt facing Americans today. These people are correct, in that the solution is immediate and direct. However, the side effects of such an action would likely be devastating. Indiscriminate debt forgiveness, legislated by the government would destabilize the entire lending market. Lenders would have no reason to make new loans. If those who lend money have no certainty that they will get their money returned, with a modest profit, they simply would not lend money, especially not to the poor or middle class, who need loans the most. This characteristic of the market disqualifies total debt forgiveness as a viable option for solving our country’s debt problems, at least as long as we intend to maintain a lending system similar to the one we have now.

Debt is an issue that must be dealt with, and quickly if we hope to mitigate long-term damage to our country. A comprehensive plan, which prioritizes the economic health of the average person over that of the banker, is the only course that will stabilize our debt situation in the short term and avoid long-term catastrophe.

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