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Why the U.S. Student Loan System Is Broken and What We Can Do About It

Updated: Feb 1, 2023

“Children are the living messages we send to a time we will not see.”

– John F. Kennedy

1. Introduction

Our hunt is to boil down expert roles and perspectives in a way that gets to the heart of the problematic student loan system. We show how our student loan system has led to a higher education market failure. First, we summarize how bankers make economic decisions and how economists interpret economic systems. This is informed by the author’s professional and academic background as a lender, risk manager, and economist. We then survey the current state of higher education outcomes. Given these perspectives, we then explore why the U.S. student loan system is flawed and needs an overhaul. We conclude by recommending both realistic and optimistic paths to help future students deal with the system as it exists or for policymakers to implement radical changes.

Table of Contents

  1. Introduction

  2. The Experts Speak: The Bankers & The Economists

  3. The Current State of Higher Education

  4. The Problem with the U.S. Student Loan System

  5. Conclusion - Recommendations for making the most or making a change

  6. Appendix and Notes


  • Higher Education System goals and participants

  • An auto lending example

  • What has changed since the student loan system started?

  • A comparison to the great financial crisis

  • Student loan default: An availability bias example

These resources are provided as an explanatory aside. They appear periodically throughout the article.

About the author

Jeff Hulett is the Executive Director of Definitive Social. The non-profit's mission is to help people achieve a better life through better decisions. Jeff's background includes data science and decision science. Jeff's experience includes leadership roles at large consulting firms, including KPMG and IBM. Jeff also held leadership roles at large banks such as Wells Fargo and Citibank. Jeff is a board member and rotating chair at James Madison University. Throughout the article, I use the pronoun "we" to reference "our" perspective. This article was only possible from the incredible past work of many people as shown in the notes section. I humbly stand on the shoulders of giants.

2. The Experts Speak: The Bankers & The Economists

This section lays the groundwork for the underlying and often hard-to-see challenges with the student lending system. We start by exploring relationships that are instructive to our understanding of the student lending system. We will also address these relationships as part of the broader higher education system. We provide context via the lens of the banker and the economist.

The banker's lending role is a standard for how society connects borrowers with society's financial resources. The economist often views the world through the incentives of economic participants. "Agency costs" are a negative outcome when economic participants become misaligned in their goals or incentives. Behavioral economists often view the world through our naturally occurring and decision-impacting cognitive biases.

The banker's role:

Among other responsibilities, a banker’s role is to lend money. They have a special "connecting" role in our economy and society. They are part of the financial services industries that connect money providers, such as depositors or investors, to worthy borrowers.

The need to determine loan worthiness - to approve only bankable loans - is a key point of our article thesis. [i] The idea is for the banker to help the borrower meet their life goals, but in a way that ensures they can pay back the loan in the future. This job is generally known as “loan underwriting.” If a lender loans too much money, it is more likely the borrower will experience financial stress and/or default. Defaults are bad for everyone.

In the case of a defaulted loan:

  • The lender loses money,

  • The depositor, investor, or insurer loses money,

  • The borrower likely will suffer personal and social harm,

A defaulted borrower’s credit access will be severely limited and their future wages could be garnished. In extreme situations, a defaulted borrower could even be imprisoned. For the borrower, a loan default is an unpleasant, high-stress experience. In addition, student loan debt is difficult to discharge in bankruptcy.

With too many defaults, the banking system itself may destabilize and the depositors may lose confidence and make a run on the bank. U.S. bank regulators, such as the OCC and the FDIC are charged with ensuring confidence in the banking system and protecting the deposits.

Student loan borrowers in the United States collectively owe nearly $1.75 trillion in federal and private student loan debt as of August 2022, according to the Federal Reserve Bank of St. Louis. [ii] That is a big number. Federal student lending growth accelerated by almost 900% since 2009. [iii] Most student loans — about 92%, according to a July 2021 report by MeasureOne, an academic data firm — are owned by the U.S. Department of Education. ("U.S. DoE") [iv]

It is important to appreciate, the U.S. student loan system is a nationalized government system. Student loans are managed almost completely outside of the traditional banking system. Thus, the regulatory oversight, risk, controls, governance, and traditions of the banking system are generally NOT required of the student loan system.

The economist's perspective:

Incentives and Agency

Among other areas, economists focus on economic system incentives. Incentives are generally considered the self-interested "invisible hand" that guides economic outcomes. To understand the effect of incentives, we must first start by specifying the participants and the participant's goals. The “agents” and “principals” of a system are the primary participants. Next, we summarize the goal and the participants for the Higher Education System.


Higher Ed System goal: To provide academic and related education assistance to the student.

Higher Ed System participants:

Demand-side Principal

  • The college student - the consumers and beneficiaries of the education experience. The 17-year-old (-ish) high school senior is the typical principal at the time a college decision is made.

Supply-side Agents

- Agent Supply

  • College and University academic providers - the primary providers of the education experience

- Agent Intermediaries / Influencers

  • Parents or other caregivers - advisors for the education experience

  • The Federal Student Loan System - funding facilitator for the education experience

  • Other beneficiaries that do not directly participate in the academic mission. For example - Non-teaching college coaches, Employers, Housing rental companies, and Restaurants.

The student is considered the principal because: 1) They are the economic beneficiary resulting from their college experience. In other words, the student will receive future income or other benefits from employment or other outcomes they gain as a result of the education. 2) The student is mostly responsible for repaying the student debt associated with college. [v]


The Higher Education System is an economic system. Economists believe that the alignment of participant incentives is critical for a well-functioning economic system. [vi] A lack of alignment may lead to market failure. [vii]

Misaligned incentives create problems (or “agency costs”) for the principal. The principal cannot constantly monitor the agent’s actions. In the case of the recent high school graduate, they are likely not yet equipped to understand the risks associated with the college decision [viii] or play an agent monitoring role. System rules and habits may sometimes disadvantage the principal. The risk that the agent will shirk a responsibility, make a poor decision, or otherwise act in a way that is contrary to the principal’s best interest can be defined as agency costs. Additional agency costs can be incurred while dealing with problems that arise from an agent's actions.

The student's parent or related caregivers play an advisory agent role. They advise the student-principal. Parents likely have their children's best interests at heart. However, many parents do not have the ability, capacity, or desire to fully understand agent-based risks or monitor the other agents' actions on behalf of their children. [ix] It is also likely that the agents of a system will act in their own self-interest. The degree to which the system's incentives are misaligned causes the agency costs borne by the principal. Those agency costs are a result of principal-agent self-interest misalignment. Agency costs may also include fraud and questionable activities. [x]

Cognitive Biases

In the last decade or so, the behavioral economics field has become mainstream. Behavioral economics lives at the intersection of economics, behavioral psychology, and the cognitive sciences. Behavioral economists focus on how our brain actually operates to make decisions. On the other hand, classically trained economists assume the economically rational decisions we ought to make. Behavioral economists focus on systemic deviations from rational decision behavior. A source of these systemic deviations is known as cognitive biases. [xi]

Specific to student lending, the operative cognitive biases are known as Availability Bias and Authority Bias. [xii]

Availability Bias - We naturally overweight salient decision factors and underweight less immediately salient factors.

Authority Bias - An individual is more influenced by the opinion of an authority figure, believing their views to be more credible. Hence, we are more likely to overweight the authority figure's viewpoint and are more likely to obey them.

This under- and overweighting plus reliance on authority creates significant decision biases that may lead to inaccurate student loan and higher education decisions.

We will explore the banking and economic impacts of student lending and the higher education system in section 4. But first, we provide a summary of a) the current state of student-principal agency costs and b) a framework for why agency costs have dramatically increased in recent years.

3. The Current State of Higher Education

The following are some of the features of the higher education market failure. This current state summary suggests that aggregated student agency costs are quite high:

  1. College costs dramatically outpace core inflation.

  2. Long-term student loan default rates are very high.

  3. First-generation college students are at significant risk of not graduating.

  4. High college costs and loan payments dramatically reduce retirement savings.

Note: Please see our appendix for the analysis, commentary, and data sources supporting the concerning agency costs.

This suggests the Higher Education system is NOT always providing desired outcomes. This points to a lack of alignment between principals and agents, which leads to high agency costs. The next graphic is our "a picture is worth a thousand words" representation of the cause and impact of agency costs as found in the higher education system today.

How to read this graphic:

  1. Agents are like a sink, draining economic value, known as "agency costs," from the principal.

  2. A higher principal-agent misalignment is shown by a movement to the wider yellow and "not aligned" left side of the alignment scale. Higher principal-agent misalignment causes are discussed in section 4.

  3. The effect of higher principal-agent misalignment and the resulting agency costs increase is shown as the principal and agents move toward the left side of the graphic.

  4. Agency costs are high, as listed below the agency cost symbol.

In the next section, we address the underlying systemic causes. These are hidden systems drivers that have an outsized impact and facilitate the agency cost transfer from the principals to the agents.

4. The Problem with the U.S. Student Loan System

In this section, we address key drivers of the principal-agent misalignment defined earlier. We address higher education challenges by exploring the following student lending-based systemic impacts:

a. Loan Underwriting

b. Economic Incentives

c. Cognitive Biases

a. From a Banker’s underwriting perspective:

To provide historical context, Alexander Hamilton was a United States founder and the first Treasury Secretary under George Washington. Hamilton is widely considered the architect of the U.S. Banking system. It was Hamilton that championed the First Bank of the United States. Today's structure of the Federal Reserve can be traced back to Hamilton. In Hamilton's "Report on a National Bank," [xiii] he said:

"[that the bank] shall be under a private not a public Direction, under the guidance of individual interest, not of public policy"

Hamilton's banking advice suggests he would be both concerned and not surprised by the challenges of today's student lending system. Hamilton's suggests the challenge of the U.S. Student lending system occurs because it is wholly under public direction. His advice leads to the observation that most bankers intuitively understand:

"A bank loan is very different than a student loan."

For the banker, the lack of traditional bank underwriting standards is the core challenge negatively impacting the higher education system. In standard loan underwriting, there are several factors a lender considers when making an “accept” or “decline” loan decision. A key underwriting factor is the Debt to Income (“DTI”) ratio. The banker seeks a DTI ratio level that makes sense for the borrower. That is, the banker seeks to ensure:

  1. The borrower has a high enough loan amount to meet their financing need. Then, as a result of that loan amount -

  2. The borrower will have enough monthly income capacity to make the monthly loan payment in the future.

If either of these conditions is not met, the banker will seek to renegotiate a loan amount and payment that satisfies both conditions. If unsuccessful, the loan will be declined. It is a key economic tradeoff. An accurate tradeoff decision is necessary for a loan to be considered bankable. In aggregate, accurate loan decisions also provide the proper valuation feedback loop for that being financed. This is an important mechanism to moderate price inflation.


An auto lending example: A car loan is a good example of the car price feedback loop from auto lending. A borrower is limited to a car not costing more than the loan payment the borrower could afford based on their monthly income. Thus, the borrower’s income capacity becomes a moderating factor of the car pricing, valuation, and the related car inflation rate. In aggregate, the car's current price is a function of past auto loan decisions.


Federal student lending, on the other hand, assumes the borrower will be able to pay ANY student loan amount and related college costs after they graduate. By definition of the student lending system, the key economic tradeoff to determine if a loan is bankable IS NOT MADE. The student loan is made based on the great HOPE that the high school student-aged borrower, along with their college decision support team, can accurately forecast incomes and economic conditions almost five years into the future. Then, the second HOPE is that the student can pick a major or other academic focus that positions the student to achieve the first HOPE. While good for the soul and poetry, it turns out HOPE is a poor underwriting guideline. This forecasting HOPE, of course, is a completely unreasonable expectation. It is difficult enough for highly educated and experienced business professionals to accurately forecast one year in the future. It seems preposterous to assume a high schooler may accurately forecast five years in the future. But that is the underlying premise of our federal student loan system.

We teach our children "You Can Do Anything!" Our student lending system teaches many borrowers a dramatically different lesson. This hard lesson may include financial stress, a lack of mobility, and a delay in family formation.

Many bankers find it somewhat offensive that this activity is known as “student lending.” The bankers know that the student loan process is wildly inconsistent with standard underwriting practices. The current student loan system does not produce enough bankable loans to warrant depositor-based funding. Banks would go out of business if they operated as the student loan system does today.


What has changed since the student loan system started? You may be wondering:

"How did we get here?! Why did those that originally designed our student loan system believe it was a good idea? I'd like to believe they were well-intended policymakers!"

At the time, policymakers were very likely well-intended. When our current student lending system was originally implemented decades ago, most students and families could either:

  • Pay for college out of savings or a part-time job, or

  • Get a student loan with payments that were a very small portion of the total income for most jobs in the U.S.

That is, college was such a good deal that it was not necessary to forecast future economic conditions and anticipate high-income jobs. Regardless of family wealth, an enterprising student could credibly pursue a general liberal arts education. Learning to think was all that mattered for landing a good job and achieving financial security. Those days are gone. Decades of high college price inflation have changed the college cost calculus. Skills commanding high salaries are now necessary for many college students to "make education pay."

"Education Pays" is an iconic slogan from the U.S. Department of Labor's Bureau Of Labor Statistics ("BLS"). Unfortunately, at best, the slogan is only narrowly correct. Without a fuller set of facts, it can also be deceiving. [xiv]


b. From an Economist’s incentive perspective:

How the incentive is built: Based on the current federal student lending qualification process -- the student loan amount is backed into after the family contribution is determined. This is known as the Expected Family Contribution (“EFC”). The EFC is calculated as a percentage of income. The income calculation is based on the family’s recent tax returns. After that, the college backs into the loan amount eligible as a difference between that college’s tuition, plus other costs, less the EFC. As such, the student loan system will finance almost any tuition amount. [xv]

The incentive effect: The college has no funding-based incentive to keep its costs down. The government will approve the loan, regardless of the tuition. To be fair, public higher ed institutions do have state tuition approval boards to control some tuition costs. [xvi] Private schools are not subject to those tuition-setting oversight bodies. Also, it is true that college consumers are not completely insensitive to price. [xvii] But even with some tuition controls and consumer price sensitivity, colleges are economically incented to increase prices. As such, college tuition and related costs have still dramatically outpaced inflation. The system’s incentives are far too powerful for the colleges to ignore.

The incentive impact on competition and behavior: This unbridled college cost environment has caused college price increases to outpace inflation because of competition. [xviii] I know this sounds weird. In a normal market system, competition will cause prices to moderate. Since the government guarantees college cost increases via the student loan system, the colleges actually compete on more costly amenities. Those costly amenities include "revenue" sports entertainment with highly paid coaches, gourmet food facilities, and world-class gym facilities. This is a government-sponsored perversion of the free enterprise system, where competition is supposed to act like an “invisible hand” to keep the system in check. Instead, in a failed market system, competition causes prices to go up faster than inflation.


A comparison to the great financial crisis: The great financial crisis that began in 2007 is a prototypical outcome example of a principal-agent misalignment-based market failure. The market failure itself is like a “death by a thousand cuts.” The starting point of a market failure is like trying to identify the “first cut.” [xix] For the U.S. housing market and mortgage market, the market failure may have started more than a decade prior to the 2007 market correction. A market failure also has a "boil the frog" nature. This is where the frog does not know the water is slowly getting hotter. It unknowingly waits until it is too late to escape. It is challenging to be aware of a market failure at the time of the market failure. Often, recognition does not occur until after the correction.

No doubt, the great financial crisis was painful. It was also a necessary and healthy market correction that created awareness and systemic change. Our banking system rules and regulations were significantly changed and strengthened as a result of the crisis. Commercial, stockholder-owned enterprises primarily operate our banking system.

Based on the outsized agency costs, the higher education system may be considered a market failure. Because student lending is operated primarily by the federal government, market-based healing mechanisms are impeded from acting upon nationalized economic systems. Strong lobbying organizations support the benefitting agents. Conceivably, the government could support the Higher Education market failure for a very long time.

Next is a high-level market failure comparison:


c. From a Behavioral Economist’s cognitive biases perspective:

Student lending is a classic case of when decision-impacting cognitive biases negatively impact college decisions. Next are examples of how availability bias and authority bias may impact the college decision.

The need to pay off the student loan is NOT salient at the time the college decision is made. Many student loans do not require repayment until after finishing college, potentially 5 or more years in the future. Thus, students and their families naturally underweight the impact of student loans. It is no wonder the student loan default rate is so high and retirement savings are often neglected! The HOPE that the student loan will be able to be repaid out of future income is often not realized, since:

  • 1 out of 5 students eventually default.

  • Beyond that, many students start college but do not finish or suffer other impairments.

Thus, some former students end up with a loan but no education credential benefit. That is a pretty horrible college parting gift! Many people consider the U.S. Government as the ultimate authority. This authority is willing to underwrite almost any student loan. As such, the high school student and their advisors are more likely to overweight the authority's perspective when considering higher college cost alternatives. "Hey, if the U.S. Government is willing to approve this high tuition loan, it must be a good idea!"


Student loan default: An availability bias example - Millions of high school students graduate every year. They are full of hope and excitement. High school graduation ceremonies are grand, community events. The college decision is blasted over the social media of proud families and students. Our higher education system is designed to accept these students and their accessible checkbooks with open arms.

It is a large group and VERY salient.

Tens of millions of student loan borrowers have defaulted on student loans. There is a social stigma associated with default. Those defaulted borrowers are handled individually and quietly, in the back office processes of loan servicers like Sallie Mae / Navient, EdFinancial, and others. Even student loan servicers do their best to keep a low profile. Defaulted loans are handled one at a time with no publicity.

It is a large group and NOT salient.

The cognitive sciences teach us that the student-principal decision-maker is likely to overvalue salient factors, like the benefits of college. The student-principal decision-maker is likely to undervalue less salient factors, like the long-term financial impact or the default risk of student loans.


While cognitive biases are naturally occurring and lending is generally accepted by our society, one would hope that our own government would not support a higher ed system that exploits those cognitive biases.

In Summary: The U.S. student lending system is a key driver to a higher ed system market failure. The higher ed market failure is characterized by high college price inflation, high student loan defaults, and poor student outcomes. Both time-tested banking practices and the economics disciplines find significant deficiencies in the U.S. student lending system. Student outcomes may be poor and are not surprising given the market failure. We need to do something different. Not just incrementally different, but radically different.

5. Conclusion - Recommendations for making the most or making a change

I admit it. The analysis presented in this article paints a pretty ugly picture. It is difficult to imagine our hallowed higher education institutions as rent-seeking economic machines responsible for reducing consumer welfare and extracting “agency costs.” It is difficult to imagine this rent-seeking machinery as being supported by our government. Their customers and citizens are unsuspecting high school graduates for goodness' sake!

To be clear - education, broadly defined, should be a family and societal priority. It is what drives innovation, advancement, and welfare for our society. I am not quick to blame colleges either. I know many amazing and well-meaning college professors, staff, and administrators. They are doing the best they can within the higher ed system's rules and habits as they currently exist. We may not like that colleges compete for costly amenities. But if colleges did not compete as the system compels them, they may go out of business. I also believe that an honest and accurate understanding is the critical step toward one or both of these courses of action:

  • Individuals to "improvise, adapt, and overcome" the higher education system as it exists.

  • Changing our higher education system by addressing the principal-agent misalignment problem.

I am both realist and an optimist.

My realistic side suggests:

“Hey, the current system is making a bunch of money for many people. Change will not come with out a fight from the current system’s winners. Change may happen, but it will be very slow. As a winning principal strategy, it is better to accept the current system as it is. This includes being smart about minimizing “agency costs” and getting the most from that system!”

My optimistic side suggests a different perspective:

“Hey, economic systems are just a set of rules made by people. If people made the rules, then people can change the rules!”

Next, I conclude by recommending solutions from both the realist’s and the optimist’s points of view. The details of these points of view are found in the referenced articles.

The realist - Making the most of our current Higher Education system: If you are a parent or a future student consumer of the higher education system, I suggest you keep your 529 plans fully funded! The federal tax-advantaged 529 savings plan is a great way to build a nest egg to handle uncertain future education costs. To help with budgeting and college saving, please follow this article link to Budgeting like a stoic.

When it comes time to decide on a college path for you or your student, your best defense is making the best possible decision using available information and a well-tuned decision process. This decision process includes deciphering low-salience but high-impact financial considerations. Also, the future may hold high-quality, lower-cost education alternatives we do not yet fully anticipate. The best decision process will ensure you make the best possible decision when the time comes. To this end, please follow this article link to The College Decision - Framework and tools for investing in your future. We provide a decision process and decision tools to help you make the most accurate, cost-minimizing, and high-value college or related decisions. These tools will help you keep as much of the “agency costs” as possible and adapt to currently unknown alternatives.

The optimist - What if we could change the higher education system?: What if we could do a “do-over?” What if we could create a new higher education system that:

  • Uses proven, low-cost education delivery theory and practice, like that developed by Khan Academy.

  • Reduces student debt burdens significantly.

  • Leverages some of the greatest educators on the planet, regardless of location or affiliation.

  • Provides low-cost education to students in a way that is geared to their unique timing needs, unique existing knowledge, and unique learning needs.

  • Utilizes the latest in platform consumer technology, similar to that of Netflix or Amazon.

  • Maintains a cost-moderating competitive environment while maintaining academic curriculum standards.

Sal Khan is the founder and CEO of Kahn Academy. Khan Academy is a world-renowned education organization with the mission to “provide a free, world‑class education for anyone, anywhere.” Mr. Khan demonstrates an intuitive appreciation for the principal-agent misalignment challenge. He said:

“Formal education must change. It needs to be brought into closer alignment with the world as it actually is, into closer harmony with the way human beings actually learn and thrive.”

- Sal Khan, Founder and CEO, Kahn Academy

Please follow this article link for a deeper understanding of Higher Education Reimagined. This article provides a sweeping vision of how we could completely revamp our higher ed system. The starting point of the reimagined higher ed system is recasting the current student loan system.

"When systems are broken, it's an opportunity for invention and innovation."

- Jacqueline Novogratz, Founder and CEO, Acumen


6. Appendix

The Current State of Higher Education

Current state summary:

  1. College costs dramatically outpace core inflation.

  2. Long-term loan default rates are very high.

  3. First-generation college students are at significant risk of not graduating.

  4. High college costs and loan payments dramatically reduce retirement savings.

Current state information and description:

1. Costs have grown at 3.5x the rate of inflation for 35 years. A generation or two ago, higher education costs were more reasonable. After decades of significant college inflation, the cost of the typical college education is unreachable for many.

2. Long-term default rates, except for the pandemic moratorium, have been at a lifetime rate of almost 20%. That is, almost 1 in 5 borrowers eventually default on a student loan. Even more significantly, about 2 in 3 high school students that begin college, finish with some life impairment. Life impairments include not graduating, not getting a job requiring a college education, or defaulting on a debt. In the following graphic, a hotter color relates to more or more extreme life impairments.

3. First-generation college students are about 2.5x less likely to finish college. This suggests there is a significant barrier to the college's ability or willingness to adapt to the educational needs of new cohorts of students. First-gen college students are more likely to be racially diverse.

4. College loan payments effectively substitute for retirement savings. This occurs after graduation. Instead of saving for retirement, the borrower is required to make student loan payments. As shown in the following graphic, the modeled retirement impact is $3.5 million! This compares the long-term difference between a more expensive 4-year private selective college ("Dream School") and a less expensive public college education. ("Savvy School")

In section 2, "The Experts Speak..." section, we discuss the impact of availability bias and the challenge of people to properly weigh the long-term impact of student loans.


[i] The Office of the Comptroller of the Currency ("OCC") is the U.S. national bank regulator. Their regulatory guide provides a nice overview of banking and lending expectations.

Editors, Retail Lending: Comptroller's Handbook, The Office of the Comptroller of the Currency, 2021 - see section 1, Introduction

[ii] Editors, Student Loans Owned and Securitized, Federal Reserve Bank of St. Louis, 2022

[iii] According to the St. Louis Fed, Federal government-owned student loans have grown by almost 900% from Q1 2009 to Q2 2022.

Editors, Federal Government; Consumer Credit, Student Loans; Asset, Level, Federal Reserve Bank of St. Louis, 2022

[iv] Amir, Teslow, Borders, Academic Lending Study, MeasureOne, 2022

[v] Next, we explore the student as the principal beneficiary of the student loan. It is true that a minority of high school graduates are able to complete college without student loan debt. This occurs primarily because their parents pay the college tuition. (Approximately 10% of the population.) It is also true a minority of student loans are the responsibility of the parent. (In the Federal student loan system, this is known as a "PLUS" loan)

Our rationale for the financial liability is primarily that of the student principal:

  1. The majority of students are directly responsible for repaying student loans.

  2. In the minority of cases where there are no student loans or the parent is responsible for a student loan, we consider those as "accelerated inheritance." In other words, most inherited estates are bequeathed from parents to their children. A parent paying for college or being responsible for their children's debt is merely accelerating a financial transfer likely to occur at the parents' death. Thus, the student is the principal because they either 1) are responsible for the student debt, or 2) are accelerating inheritance for which they would have been the beneficiary.

[vi] System challenges typical of system participant alignment are also known as the "principal-agent problem." The principal-agent problem is a well-studied challenge in the economics profession. The 2007 financial crisis is often cited as a prototypical example. For a quick summary of the principal-agent problem, please see:

Higher Education is an area studied via the principal-agent problem lens, though a literature review suggests our application of banking, economic incentives, and behavioral economics appears to be unique. An example of existing research on the principal-agent problem in higher education includes:

Auld, Douglas, Strategic Planning and the Principal-Agent Issue in Higher Education Leadership, Academic Leadership: The Online Journal: Vol. 8: Iss. 3, Article 40, 2010

[vii] A prototypical example of a principal-agent misalignment leading to a market failure is The Great Financial Crisis that began in 2007. This financial crisis and recession have some consistency with student lending. For example, the Federal Government was implicated as one of the causes of the financial crisis.

Weinberg, The Great Recession and Its Aftermath, The Federal Reserve, 2013

Financial Crisis Inquiry Commission, The Financial Crisis Inquiry Report, 2011

[viii] In this citation, we explore college risks in the context of the employer and the risk manager. The chief aim of this article is to help the reader make the best college decision, by optimizing the value-to-cost tradeoff.

[ix] Andrea Malkin Brenner, PhD is a college transition educator, former professor, and creator of the first-year experience program at American University. Dr. Brenner makes an important observation that many parents provide a form of college preparatory "scaffolding" for their high school students. This scaffolding is often quickly removed when the high schooler transitions to college.

As an analogy - this quick removal of scaffolding is like removing a cast from a high school athlete's healing leg injury, then asking the recovering athlete to play in a full soccer match! Of course, the injured leg is much more likely to fail.

This lack of resilience or lack of transition assistance has been found to cause challenges to college student's success.

[x] Fraudulent activity is also evident in a market failure. Higher Education has also been subject to fraudulent activity. The most notable of which was the 2019 college admissions scam case. The scam involved wealthy families paying to have their children recruited as fake athletes.

A documentary film sheds light on the ugly side of competitive college admissions. "Operation Varsity Blues: The College Admissions Scandal" unveils the lengths to which people will go to gain access to America's elite institutions — including breaking the law.

There are more common behaviors that may not rise to the level of fraud but do include questionable activities such as:

  • Standardized test preparation.

  • Medical exceptions allow more time for standardized tests.

  • Hold back students to a grade level.

  • Hire professional college entrance counselors.

Each of these activities may have a legitimate purpose. Each of these activities may be abused. The deeper the market failure, the higher the likelihood of abuse.

As a comparison to another market failure, fraud and questionable behavior were well documented in the financial crisis.

Financial Crisis Inquiry Commission, The Financial Crisis Inquiry Report, 2011

Next is a high-level market failure comparison:

[xi] The Royal Swedish Academy Of Sciences provides a definition of behavioral economics in their 2017 justification paper for awarding the Nobel Prize to Richard Thaler.

"In order to build useful models, economists make simplifying assumptions. A common and fruitful simplification is to assume that agents are perfectly rational. This simplification has enabled economists to build powerful models to analyze a multitude of different economic issues and markets. Nevertheless, economists and psychologists have documented systematic deviations from the rational behavior assumed in standard neoclassical economics. Incorporating insights from psychology into traditional economic analysis has spawned the field of behavioral economics, a flourishing area of research with significant impact on many subfields of economics."

Editors, RICHARD H. THALER: INTEGRATING ECONOMICS WITH PSYCHOLOGY, The Royal Swedish Academy Of Sciences, 2017

[xii] For a nice compendium and taxonomy of our cognitive biases, please see:

Desjardins, Every Single Cognitive Bias in One Infographic, The Visual Capitalist, 2021

[xiii] Syrett (editor) The Papers of Alexander Hamilton Digital Edition, University of Virginia Press, 2011.

[xiv] For the BLS "Education Pays" perspective, please see:

Editors, Education Pays, U.S. Department of Labor's Bureau Of Labor Statistics, 2022

For an explanation of the standard "static pool" approach to decision-making, please see:

Hulett, The benefits and risks of college – An employer's and risk manager's perspective, The Curiosity Vine, 2022, section 3 "The Risk Manager's View"

For an explanation of why the BLS approach may be considered deceptive, please see:

Hulett, The benefits and risks of college – An employer's and risk manager's perspective, The Curiosity Vine, 2022, section 3, subsection "Digging Deeper"

[xv] Editors, Wondering how the amount of your federal student aid is determined? Federal Student Aid, An Office of the Department of Education, 2022

[xvi] Pingel, Broom, 50-State Comparison: State Policies on Postsecondary Tuition Setting, Capping and Freezing, Education Commission Of The States, 2020

[xvii] In this citation, we explore college pricing in the context of price discrimination. We also provide examples of what economists call "sludge" in the college application process. We provide an example that compares the car-buying process to the college application process.

[xviii] For a hopefully helpful but admittedly sarcastic story about how our student loan system encourages dysfunctional competitive behavior, please see the article:

[xix] The definition of a "market failure" is tricky. Often, one does not know they are in a market failure until after a market correction occurs. As in the case of the financial crisis, the signs of a market failure were clearly evident a decade before. However, most did not recognize it as such until after the market correction beginning in 2007.

Because of the four factors mentioned as the "High Agency Costs" of the higher education system, we consider the current higher education system to be a market failure. When, or if, a market correction will occur is unknown.

For an in-depth review of the causes of the Financial Crisis, please see:

Financial Crisis Inquiry Commission, The Financial Crisis Inquiry Report, 2011


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