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With income-contingent interest rates on education loans students could trade off the risk that their degrees may not pay off immediately against the result that they get a well-paying job straight out of the gate. (Thinkstock/Getty Images/Comstock Images)
With income-contingent interest rates on education loans students could trade off the risk that their degrees may not pay off immediately against the result that they get a well-paying job straight out of the gate. (Thinkstock/Getty Images/Comstock Images)

Let’s tie student debt to student risk Add to ...

Law tuition at the University of Toronto is slated to escalate by 8 per cent next year to roughly $29,613, having already risen from $3,808 since 1998, when tuition was deregulated in Ontario. Other law schools may soon follow suit. Students are protesting, correctly noting the glaring lack of monitoring and reporting on the impact of tuition increases on access to legal education.

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Few may pity law students. Considering that a first-year associate at a downtown Toronto law firm may earn upward of $100,000 annually, the return on the investment looks pretty good. However, obviously not every law student lands a Bay Street job, nor should we aspire for legal education to churn out only corporate lawyers.

The problem is basic to funding human capital investment: The returns are risky and it’s hard to get credit to fund the investment. Nonetheless, there's a cost to higher education and someone has to pay the bill.

As last year’s Quebec protests showed, many students would like the rest of society to pay their way, arguing that this is a matter of social justice. Yet, facing budget pressures on many fronts, governments and citizens are increasingly receptive to the idea that those who benefit from higher education should also bear the bulk of the cost.

From the 2006 census, the median university graduate earns nearly 80 per cent more than a worker with only a high school education. The median college graduate earns roughly 40 per cent more. True, students may graduate with significant debt loads. But if there is such a wage premium to higher education, doesn’t it make sense for students to take on the debt to pay for it? Shouldn’t a graduate’s lifetime earnings justify the up-front investment?

The big issue is that a student stepping into a first-year engineering class does not know where she will be at the end of her degree. She may be averse to the risk that, despite her best efforts, she won’t get a top job. She may choose a less expensive program or not pursue a degree altogether, fearing the downside risk and doubting the upside.

Ideally, students could trade off the risk that their degrees may not pay off immediately against the result that they get a well-paying job straight out of the gate. Put another way, they could “insure” against the downside risk that their investment has a lower return.

Bob Rae's 2004 review of postsecondary education in Ontario recommended just this. In a study for the Rae review, Ben Alarie and David Duff argue that students are limited to “mortgage-style” borrowing. They advocate for “income-contingent” repayment, where debt and interest relief are automatic if a graduate’s income is below certain thresholds.

By alleviating the risk if the investment doesn’t pan out, making loan repayment income-contingent would enhance incentives to pursue higher-cost degrees and postsecondary education broadly. Targeted, needs-based grants are essential for increasing participation – especially for students from low-income families. But income-contingent repayment can encourage students to pursue programs from which they might be otherwise deterred.

Moreover, graduates would be more likely to take entrepreneurial risks. Do you want that brilliant mathematics graduate to go work for a stable, predictable salary at some bank? Or do you want her to jump on board that risky high-tech startup? Income-contingent repayment would lessen the worry that she can’t make her payments if the startup goes bust.

The 2009 introduction of the Repayment Assistance Plan made repayment somewhat contingent on income. However, interest relief only kicks in at income levels that skirt destitution, and the RAP requires ongoing application. If relief on principal and interest payments was automatic and progressively calibrated up the income scale (i.e. higher income borrowers pay higher interest rates or greater shares of principal), a forward-looking student might now bet on the potential returns of an engineering degree or culinary arts diploma.

Yet, certain student groups oppose income-contingent repayment, erroneously believing that it costs lower-income graduates more. Looking at the example of Australia, which introduced income-contingent repayment in 1989, the principal of a borrower’s loan is indexed to inflation and the repayment is a progressively calibrated share of the borrower’s post-graduate income. Although lower-income graduates face a longer repayment period, they don’t pay real interest and therefore actually receive a larger subsidy. Indeed, a problem with the Australian system is that, since high-income graduates don’t pay interest either, it is more expensive than necessary.

The other objection is that alleviating students’ debt burden will allow universities and colleges to jack up tuition. This objection is behind the times. Tuition and debt loads are already substantial, and taxpayers (not unreasonably) generally agree that those who get the benefit should shoulder most of the cost.

Income-contingent repayment can only alleviate students’ sticker shock for current tuition rates. Think of it as venture capital for higher education: If a graduate can’t find a job immediately, she’s not crippled by debt repayment. However, if the graduate succeeds, the public shares in the upside.

Grant Bishop is a law student at the University of Toronto and previously served as an economist at a major Canadian financial institution.

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