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It’s Official: Student Loan Debt Is Hurting the Economy

This article originally appeared in The Motley Fool on October 27, 2013.

By Amanda Alix

Most people know that the current $1.1 trillion in student loan debt weighs heavily upon the shoulders of college graduates, but how does it affect the greater economy? The notion that onerous college debt could be affecting the housing market isn’t new, but the issue has been front and center lately, as Obama administration officials note the injurious effect that heavy student debt is levying on the economy.

Housing is taking the biggest hit

In a recent speech at the ABS East conference in Miami, Consumer Financial Protection Bureau Ombudsman Rohit Chopra told a gathering of structured finance specialists that college debt is dragging down the economy. Housing is taking it on the chin, as prospective first-time homebuyers graduating with student loan debt are finding their credit profiles negatively affected. Chopra tied 75% of the decrease in household formation over the past few years to college debt.

Treasury Secretary Jacob Lew told the members of the Financial Literacy Education Commission several days ago that a college education is vital to young people, increasing the chances of upward income mobility by 75%. But high levels of student debt are keeping graduates from achieving goals such as saving for retirement, starting new businesses — and buying a home.

A roadblock to homeownership

Surveys reveal that many indebted college graduates have found student debt to be a barrier to owning a home. Respondents to a poll by the Young Invincibles this past spring showed that 47% have put off buying a home to make their monthly student loan payments. Likewise, a study by the OneWisconsin Institute in June found that those without student debt had a 36% higher rate of homeownership than those who were still paying on their college loans.

Student loans can also increase the chances of being rejected for a mortgage, particularly if there are several separate loans listed on an applicant’s credit report. In the Young Invincibles survey, 15% said their mortgage application had been rejected because of student debt.

The dampening effect of college debt on housing spreads to the greater economy as well. The National Association of Home Builders notes that homebuyers spend a lot of money during the first two years following their house purchase, giving other sectors a lift. Spending on household furnishings, appliances, and repairs and improvements are common — and show just how important to a thriving economy homebuying can be.

What can be done?

According to Lew, President Obama’s campaign to make college more affordable includes efforts to lower college costs, as well as encouraging institutions of higher learning to help students better understand options for paying for a college education, including student loans. The hope is that students will make more educated choices, which will help reduce their overall debt load.

Chopra suggests that the securitization industry can be of assistance, particularly in the way they securitize student loans. Specifically, he would like to see the issue of wage garnishment go away.

The problem of burdensome student loan debt isn’t going to be cured all at once, or by making a handful of specific changes. But putting the issue in the spotlight encourages discussion, and hopefully solutions. For an entire generation of would-be homeowners, improvements can’t come soon enough.