Mortgage ills start to infect college loans

The Chicago Tribune reports:

If you want to borrow a lot of money for college, you are not going to like what the mortgage mess is doing to you.

The credit crunch, which started with a panic over people missing home loan payments several months ago, has spread like a disease, infecting a broad range of loans. Now it may poison opportunities for college students to obtain some loans and is adding painfully high interest costs to many.

So far federal student loans, or the low-interest college loans offered under government rules, are still plentiful. Students who get Stafford loans pay 6.8 percent interest, which is relatively low compared to other loans available for college.

But concerns developed last week because some lenders, including Chicago-based National Education Servicing LLC, have decided to stop giving out student loans. The lenders reached the decision because they had trouble borrowing money themselves. And they need to borrow money in order to lend money to students.

The issues sprang from mortgage problems. As homeowners have been missing payments, banks and other lenders have taken billions of dollars in losses. Lenders have become gun-shy, fearful that if they lend money they won't be paid, and concerned because bond investors won't buy the packages of loan payments that are critical in funding new loans.

These investors are aware that during the last few years, lending practices became sloppy. They aren't sure what loans to trust and what loans are suspect. As a result, the process of handing out money—whether to home buyers, college students or car buyers—has been paralyzed.

Higher rates possible
Until lenders and investors start feeling safe again, they are expected to hold on tightly to money.

That could mean that students who seek loans may have difficulty. They might have to turn more to higher-interest private loans. And in this environment, families without good credit could be turned away or charged a lot, said Mark Kantrowitz, publisher of FinAid.org.

There is no way to know if the problem will subside quickly or last into summer, a time when incoming college students might be seeking loans. The credit-crisis problems have been worsening since last summer.

"Six weeks ago, I would never have said that colleges could run short" of student loan money, said Andrew Davis, executive director of the Illinois Student Assistance Commission. "Now, I'm not so sure."

In the last week, the state of Michigan said it was not going to be generating its usual student loans because it was having difficulty borrowing money. Some companies in the loan business have had similar problems.

For the moment, the federal government is trying to reassure students. A spokesman for the Department of Education said that if there is any slack in lending, it will step in by granting more loans at the 6.8 percent rate.

But it is also hinting at potential problems. Although the program could accommodate additional schools and the students and families they serve, the spokesman said, "The department is concerned the benefits of the [Federal Family Education Loan program] could diminish as a result of fewer lender participants."

In other words, it's possible the government wouldn't be able to pick up all the slack if the credit crunch lasts long.

To appreciate this, you must understand that students receive federal Stafford loans in two ways. About 20 percent come from the government directly. The other 80 percent come from lenders who follow government rules, such as charging no more than 6.8 percent interest. But those lenders depend on borrowing money. The government doesn't have to borrow money from any source but the U.S. Treasury.

Davis said it would be a "bureaucratic nightmare" for the government to try to take on a 400 percent increase in loans.

Risk is starting to be a factor in making loans,not what Ben Bernanke is doing.