Why the current campaign on student loan interest may be misguided, misunderstood and misdirected

HEPI Director Nick Hillman takes a look at the campaign to write off some outstanding student debt.

There has been a spate of media stories this week about student loans. In essence, people who went to university in the years after higher tuition fees began in 2012 are now getting on in their careers only to find a big chunk of their salary disappearing at source.

Their anger has focused especially on the real interest rate applied to the debts of higher earners (currently 3.2% to cover [RPI] inflation plus another 3% on top). This interest rate means you can be making material student loan repayments while not materially reducing the face value of your outstanding student loan.

Such anger was always going to happen. In 2014, I wrote a piece for the Guardian entitled ‘Today’s students aren’t an electoral force, but wait until debts bite’. This predicted ‘the debts today’s students are accruing’ would eventually ‘cause a political ruckus’:

come with me to the election of 2030. Those who began university when fees went up to £9,000 in 2012 will be in their mid-thirties by then. That is the average age of a first-time homebuyer and the typical age for female graduates to have their first child. By then, there will be millions of voters who owe large sums to the Student Loans Company but who need money for nappies and toys, not to mention childcare and mortgages. So, however reasonable student loans look on paper now, the graduates of tomorrow could end up a powerful electoral force.

It is easy now, as it was easy then, to see how promising to reduce these graduates’ student debts would be popular, at least with them. At the 2005 New Zealand general election, Labour promised to abolish student loan interest in ‘a blatant, unapologetic pitch for the middle class vote – and it probably worked’. A later New Zealand Prime Minister remarked: ‘it’s not politically sustainable to put interest back on student loans. It may not be great economics, but it’s great politics.’ 

Of course no one likes facing having high debts or seeing big deductions from their salaries to repay those debts. Plus, it is a very hard time to be a young graduate, with high housing costs, a tough graduate labour market and endless obstacles against settling down. (Is it possible, perhaps, that the current campaign has found such a sympathetic hearing among older voters and older journalists because it feels easier to support reducing younger graduates’ student debts than to support other changes that could help younger workers more, such as lots of new housebuilding?)

But as the arguments rage, let’s not pretend the new campaign is anything other than what it is: an attack on the most progressive feature of England’s (old) student loan system by those whose degrees have helped them on to higher-than-average wages.

As Lord Willetts told a parliamentary committee in 2017:

the interest rates were [originally] brought in to make the system a bit more progressive – [to] collect rather more from high‑paid graduates – but I am afraid that the lesson, surely, from interest rates is that progressive policies are not always politically popular.

The current complaints from young professionals are also an outstandingly clear example of the old idea that entering work and settling down pushes people from left to right politically. Remember, the real interest rate on student loans is the single most progressive feature of the student loan system: it is the bit that ensures better-off graduates do not extinguish their loan swiftly and instead go on paying back for longer. Getting rid of it would therefore be regressive.

I can’t help feeling that today’s angry middle-income graduates resemble no one so much as those who voted for Margaret Thatcher’s tax cuts in the 1980s. (Indeed, if I were Kemi Badenoch, I would be asking whether this group might offer a path back to power for the centre right.) 

So much is being missed in the current campaign that I feel duty bound to flag the 10 points below:

1. The original proposal in the Browne report of 2010 to charge a real interest rate was to ensure that graduates covered the government’s cost of borrowing – at that time, this was thought to be 2.2 per cent (but it is higher today), though the Coalition Government went for a slightly higher 3 per cent maximum to make the system as progressive as possible. Today, the UK Government owes nearly £3 trillion and annual interest on that debt is around £100 billion. It would feel great if we did not have to pay that interest each year, but we do. 
2. The real interest rate no longer exists for new students in England (as it was abolished in 2023). Much of the media coverage in the last few days has seemed irresponsible because it implies to people currently holding offers from universities that higher education is not worth it. This morning, for example, BBC Radio 4’s flagship Today programme (1’53” on) featured a cosy interview of two graduates, one an MP, that talked about the costs of repaying a student loan but which ignored the enormous (on average) personal financial and non-financial benefits of getting a degree – which remain substantial even after taking the loan repayments into account.
3. One of the graduates interviewed on the Today programme called his 51% marginal deduction rate (40% income tax, 2% National Insurance and 9% student loan repayments) ‘highly disincentivising’. Taking home less than half your pay is indeed painful (just as is losing more than half your benefits for every extra £1 earned). By inclination, I rather favour a smaller state myself. But the graduate said, as a consequence of this 51% rate, that he is ‘trying to reduce my hours’. This seems an unusual response, given it’s surely better to receive 49p in each extra £1 earned than not to earn that £1 at all and given that reducing his hours will mean his student loan debt ends up growing even faster as his repayments fall. Many of the older journalists encouraging unhappy graduates to make these arguments will be facing a marginal tax rate of around (sometimes above) 50% themselves, yet it does not seem to have made them less ambitious. (Paging Arthur Laffer.)
4. It is the interest rate that, in part, pays for the insurance features of student loans, such as the write-offs for those whose higher education did not work out so well financially. If you never hold down well-paid work for whatever reason, you do not have to pay back your loan. The student loan system has a lot in common with taxation and that is how taxation works too: those with more pay for those with less. So it was particularly odd, I thought, to hear the Labour MP for Milton Keynes North, say on Radio 4 that other debts might be better than student loans ‘because of the high interest rates’. Save the Student (‘the student money site’) rightly responded by saying: ‘The suggestion from Chris Curtis that it may sometimes be better to take out a private loan was astonishing (not to mention unrealistic and dangerous).’ Could it have been better to focus on the continuing campaign to get Milton Keynes a regular university or on the delays in the opening of East/West rail, which is currently being held up by a petty dispute over who should open the train doors, thereby hindering the development of the Oxford-Cambridge Arc?
5. The interest rate in question is tapered. I wish I had a pound for every time the interest rate on student loans is written about as if it is fixed. In fact, the cohort of graduates facing real interest rates do not face a real interest rate if they earn below £28,470 and they only face the full whack if they earn at least £51,245 a year – significantly higher than the average graduate salary let alone the average salary for the working population as whole. The interest rate these graduates face is also capped at certain times. In the sober official language: ‘during some periods we may apply an interest cap to ensure you’re not being charged a higher interest rate than comparable rates found in the commercial market.’
6. A really detailed look at the whole issue of interest on student loans was made by the Augar panel at the end of the last decade. They concluded abolishing interest (which has of course now happened for those going to university from 2023) would be deeply unfair and damage other parts of education: ‘Some of our respondents argued that student loans should never attract real interest – not even for borrowers who have left education and begun earning. We do not accept this view: a level of real interest should continue to be charged on the grounds that it would be imprudent and wasteful for government to provide entirely costless finance. It is worth reiterating the point that the variable interest rate mechanism protects low earners from high real interest rates, while increasing the contribution from higher earners. The provision of loans at zero real interest throughout the whole loan period could encourage almost all students to take out loans (as opposed to paying fees with their own funds) and to continue to hold this ‘debt’ throughout the contribution period as it may eventually be written off. This would be at considerable additional cost to government at the expense of investment elsewhere in tertiary education.’
7. The real interest rate was abolished by a centre-right government in England from 2023 but it was kept in Wales by a centre-left government, which likes its progressive nature. (Scotland does not have a real rate of interest, which is part of the general SNP approach of seeming progressive while in practice protecting middle-class finances at the price of restricting places and underfunding universities.) The new campaign seems to have emerged from a left-of-centre place (judging for example, by the MPs speaking out) but eradicating interest is not really a left-of-centre idea at all: it takes weight off the shoulders of the best performing graduates and applies it to others, whether they are less highly-performing graduates or non-graduates. That is why, since the real interest rate was abolished for new students in England from 2023, many organisations favouring greater redistribution and regarded as being on the left have called for the real interest rate to return. Last year, Times Higher Education reported that the National Union of Students wanted to reintroduce ‘real interest rates of up to 2 per cent for higher earners’.
8. Perhaps the most important point of all, however, is that today’s campaigners should be careful what they wish for. A judicious campaign may get them what they want, as in New Zealand. But whenever in the past people here have said students loans are not being paid down quickly enough, the policymakers’ response has tended to be the opposite: in other words, toughening up the repayment rules, for example by reducing the salary threshold at which the loans start to be repaid, leaving people with less – not more – cash in their pockets. Another favoured policy has been to increase the student loan repayment term, to ensure more graduates pay back the entirety of their debts.
9. If there is a case for writing off some or all of anyone’s outstanding student loans and if the country were rich enough to do this (I fear it is not, just look at the deficit / debt), then surely the cohort to start with would be the COVID generation, whose higher education was so badly disrupted. They are generally a different group to the early late 20somethings and early 30somethings now doing well in their careers who are behind the new campaign.
10. Finally, it is worth recalling the story of the world’s first modern income-contingent student loan system, the Yale University’s Tuition Postponement Option (TPO) from the 1970s. The progressive features of this scheme became unpopular among Yale’s wealthy graduates who disliked paying to cover the costs of other graduates who had done less well financially. The TPO was eventually wound up in 2001 after an aeroplane salesman set up a ‘TPO Blues’ campaign for rich alumni. The scheme’s demise might have been popular, but no one should pretend it was progressive.