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The Chancellor on student loans

October 14, 2017

The Commons Treasury Committee has announced its own review into English higher education, bringing the number of parliamentary committee inquiries to three.

I’ll be appearing at the first oral evidence session on Wednesday, which you can watch live on Parliament TV. In preparation for that (and for the Economic Affairs committee hearing the following week), I’ve been having a look at Philip Hammond’s appearance before the EAC last month. The transcript is available here.

Hammond’s is a guarded performance. His appearance occurred before the Conservative party conference and before the changes to loan repayment thresholds and the freezing of fees was announced and confirmed.

The most interesting comments are on the sale of loans.

Hammond provides a general justification for the policy:

“It is the Government’s intention, where they find that they hold assets on the public balance sheet for which there is no policy or strategic reason, to realise those assets and thus reduce public sector debt, helping us to achieve our debt targets and/or create capacity to do other things in line with policy priorities.”

Setting out clearly that there is a preference for cash (liquid asset) over the loans (illiquid asset) because of the composition of Public Sector Net Debt – illiquid assets are excluded from that headline statistic. Alternatively, the cash can be spent to ‘do other things’.

But skirts round the issue of selling loans at a loss:

“As regards selling debts at a loss, as I said, the design intention of student loans is that they will not all be fully repaid. That is not the expectation. Clearly, there is a notional anticipated repayment level for any particular tranche of loans. Each tranche of loans has a different design structure. The market will price a book of loans, both to reflect risk and the market view of recovery rates and the market’s requirement for a discount rate.”

First, he conflates the fact that loans are ‘impaired’ (they are worth less than their face value) with the very likely outcome that loans would be sold at less than they are worth. That is, the fair value of loans (recorded in Department for Education accounts) is less than their face value, but an acceptable price might be lower still.*

Second, there is a breezy reference to discount rate, which runs together various rates: the financial reporting rate behind the fair value; the value for money test rate; and a discount that might be offered to purchasers. Unfortunately, no follow-up questions interrogated this statement. But this particular use of discount rate occured twice:

“Of course, the intention is to market portfolios of loans, and the price—and thus the discount rate—will be set by the market when a package of loans is brought to market.”

Again, there is no reference to the separate value for money test, that is meant to test whether the discount rate used by the private sector leads to an acceptable price. (This Vfm test is already skewed so that a sale that leads to a loss would pass).

Elsewhere, Hammond emphasised the clear policy commitment to a sale, but also indicated that we are still at a ‘market-testing’ phase. The tone might lead one to conclude that the government is having to go further than anticipated to get a bite from the ‘market’. It’s hard to see the recent chopping and changing of post-2012 loans not affecting market appetite for what’s on offer (and that’s before remembering that pre-2012 loans have an interest rate of 1.25% at present – well below inflation).

Asked directly about the fiscal illusion of scoring interest accruing as income in the national accounts, Hammond deflected by making vague reference to the general problem of recognising impairment. On other matters of detail – the target RAB and the discount rate change brought in by his predecessor in 2015 – he admitted ignorance.

In light of what we now know, you could also scour the comments on general ‘value for money’ in the fee-loan regime for clues as to what a coming review will look like.

“As far as I am aware, there are no alarm bells at the moment telling me that we should review value for money from a policy perspective. There is clearly another aspect, which is value for money to the individual, and the situation the individual finds themselves in. There is a significant difference between a graduate who leaves university with a significant level of debt and a well-recognised degree in an area known to provide strong employment opportunities and, on the other hand, a graduate who has a similar level of debt but may not have a degree that will enhance his or her employment opportunities in the same way.

“We have a responsibility to look at the way the system is working in practice. It is probably fair to say that the original expectation was that there would be a bigger range of outcomes in relation to fees charged than has actually turned out to be the case.”

So again – we see reference to differential fees (recall May’s recent focus) and reference to gradautes with large debts but limited employment opportunities.

You might want to combine those concerns with the ‘perverse incentive’ he’s been alerted to in the system.

“It is a matter of concern, which several vice-chancellors have drawn to my attention, that universities incur significantly higher costs in teaching some subjects compared with others, and the funding system does not reflect those higher costs in a way that necessarily incentivises universities to focus on increasing their STEM teaching. Indeed, some have argued that there is a perverse incentive in the system, in that they can generate surpluses in relation to some of the humanities subjects that are cheaper to teach.”

It’s hard to see how the current market mechanisms can eradicate that incentive. It will probably require the imposition of subject-level limits on fees or loans.


*The government has indicated that it is prepared to sell loans for less than they are worth. Whether this is a good or bad position depends on how far it is rational for government to prefer cash today over holding a financial asset that will realise its value for several years. Most commentators, myself included think it’s approach is misguided and driven by a misplaced short-termism or obsession with presentational matters (like PSND) over genuine concerns for fiscal health. The level of this short-termism can be gauged by the difference between the financial reporting rate and the VfM rate: RPI plus 0.7% against RPI plus 3.5%. That’s a big difference.

What this isn’t though is: “like buying a sofa on HP then selling it cheap on eBay to pay the grocery bill”.

The government has loaned students the money to study (to buy the sofa) and then wants to sell the loan (or at least the income stream associated with the loan): the student still has the education (or the sofa).

And the government used to provide sofas for free, so would be in a better cash position after a sale than previously. There are really three stages to the analogy:

  1. Providing sofas to students for free;
  2. Providing loans for students to buy sofas;
  3. Selling the loans.

The position at 3 is better than the initial position (1) in cash terms, but is 3 better than 2? How should the government value the financial asset compared to cash?





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