Some basics on incidence of student loan relief

Labour proposes wiping 10% off of outstanding student loan balances for domestic borrowers that are not in arrears and who have not benefitted from fees-free study. That write-down will happen on 1 April.

It proposes doing it again in 2031, and each year afterwards, for borrowers in good standing who have been NZ-based over the prior three years. Those whose balances are at or under $2000 will have the debt written off completely. 

Some of the effects of this are straightforward.

If you are a current student and you have not borrowed as much as possible at zero percent, then you have stronger incentive to max out your loan. Borrowing at zero percent is free money. The amount you will have to pay back, eventually, is worth less than the amount you're given today barring deflation. So if you had otherwise been paying for living costs from savings from a summer job, rather than taking on debt, keep your savings in a term deposit. Whatever that term deposit pays will be higher than zero percent. And in 2031, ten percent of your loan balance will be wiped out. 

I don't think Labour's figures have accounted for this stronger incentive to borrow to the maximum. 

Graduates with large balances and with strong earnings get the largest benefit from the policy. Remember that the loan balance, at zero percent interest, only really determines when you have to stop paying $0.12 on every dollar earned above the threshold to pay down your debt. The present value of that obligation is higher for those who are actually paying down their loan. If you have a large balance but no earnings, you have no repayment obligations. Taking 10% off of that balance does not affect when you'll pay it off. The balance will eventually be wiped out because it does not transfer to your estate on death. 

As we approach 2031, which I'm pretty sure is the first year in which the 'small balances are wiped' happens, those with balances of up to maybe $15k and ability to shift funds around to drive that balance down to $2k should really consider doing so. Getting the $2k wiped off can be a decent return. But obviously if your balance is above $20k, it's better to have 10% wiped off. 

I go through it in this week's column for Newsroom, now ungated. 

So we should expect that borrowing will increase if students expect loan balances to be partially written off three years after graduation. How many students will decide to stay here rather than move abroad after graduation is anyone’s guess. But moving abroad already means facing actual interest payments on student loan debt.

New Zealand’s Student Loan Scheme is already heavily subsidised. Every year, the government writes down the value of its lending, largely because that debt attracts no interest. In the most recent annual report, the subsidy provided through new student loan lending amounted to $585m – the cost of the initial write-down.

That ongoing subsidy would increase under Labour’s proposed policy, in addition to the up-front cost of about $460m, with some odd distributional and incentive effects.

I suspect there are better uses of hundreds of millions of dollars. But it is an election year.

I still think it would make more sense to reinstate interest on loans while setting means-tested scholarships instead, along with better prep for tertiary study at high school.