Bailouts: Economics First, Politics Second
Disclaimer: The writing of this opinion piece took place from August to September 2022, but was edited, finalized, and published in December 2022; new information after September was not included in the analysis.
As the United States and the global economic infrastructure find themselves in turbulence, dissecting the macroeconomic environment and policies that bred today’s recession and recovery measures to combat the contracting economy, is necessary. In times of such economic turmoil, government intervention is pivotal in buffering the economy from further decline. After all, capital injection is swift, but consequences take place far into the future. Large-scale bailouts thus must be holistically evaluated before execution, and this means accounting for both the short- and long-term economic implications of financial rescue. Still, holistic evaluation is not always possible; because bailouts are usually in reaction to some pressing externality, the inherent urgency can invite collateral economic damage. Bailouts, though a powerful tool to combat an illiquid economy and thus a potent ally of the nation, when tainted by mistiming and politicking can lead to subpar and even counterproductive results.
The definition of a bailout, according to Cornell, is when the government gives financial support to rescue a company or, more broadly, an economy that is in financial trouble and possibly at risk for bankruptcy. For the flexibility of argument, this analysis will broaden the definition of a bailout to encapsulate all forms of protective or remedial financial aid given by the government to the individuals of a country in response to an emergency; more specifically, this analysis aims to dissect a prominent case of a bailout in the form of debt relief to examine the role of timing and political incentives within, and how they may affect outcomes. The scenario in question will be the Biden Administration’s loan-relief program against the backdrop of stagflation.
In August of 2022, the Biden administration rolled out a student loan relief program per the Student Loan Relief Act, with a loan forgiveness of up to $20,000. To qualify, individual borrowers must make less than $150,000 annually, and households less than $250,000. Though the applications for relief will only open in early October, public sentiment shows both support and dissent — this paper takes the stance of cautionary dissent. At first glance, the relief program may seem equitable, but many factors point at the potentially negative socio-economic ramifications of this program. Though the Biden Administration’s loan-relief program seems to come at a pressing time of need, it is fundamentally mistimed, politically charged, and may yield inflationary consequences as a result.
It could be argued that Biden’s loan-relief program comes at a timely point in the year as the US economy currently finds itself in a recession. By wiping out $10,000 — $20,000 from students’ debt balance, a significant burden is lifted. Especially in a time when gas prices, and subsequently commodity prices, are at their peak in consequence of the war in Ukraine, consumer purchase power should be at a relative trough and such stimulatory measures seem necessary to reinvigorate the economy. After tremendous economic pressure resulting from both the COVID-19 pandemic and wartime conditions in the East, students will be able to save and invest the difference because of this program, paving way for liquidity at a time when liquidity is at a relative minimum. However, this argument misrepresents the current environment with respect to the intensity of the pandemic and consumer behavior.
The rationale behind and efficacy of the Student Loan Relief Act is contingent on an accurate account of present-time economic activity, as its enactment relies primarily on the HEROES Act. The HEROES Act allows the waiving of federal student loan requirements to support borrowers in an emergency, such as a natural disaster or war. Biden deems the COVID-19 pandemic as under this emergency category and touts the necessity of the loan relief program upon this premise. The flaw with this categorization is that, statistically, the US is on a path to recovery from the pandemic. Daily new cases of the virus have been on a decline, and the daily death toll has decreased by 15,000 from a peak of around 16,000. To argue that the pandemic still falls within the category of an emergency at present time is to assume the burden of the COVID-19 virus has remained constant throughout its lifespan. The statistics of the lifestyles of US citizens prove otherwise. People’s behavior has begun to shift in tandem with the recovery from the pandemic; they are no longer bound to their homes per previous quarantine mandates, and this is reflected in the resurgence of consumer spending.
The loan relief program may also introduce the economy to additional stimulatory effects, which could collide with the currently high inflation rate in the US. The war in Ukraine has resulted in an upward pressure on gas prices, which has led to high shipping costs and commodity prices. However, consumer spending has peculiarly returned to pre-pandemic levels; the US now is in stagflation, a scenario in which a recession and high inflation occurs simultaneously. This is a latent effect of an amalgam of the supply-chain bottlenecks caused by early quarantine mandates that limited supply and logistics, the subsequent $2T stimulus injected at the onset of the pandemic that drove up demand (to hedge against workforce displacement), and war-time externalities that further inhibited liquidity at large. In essence, the current recession is the result of waning global supply squeezed by resuscitated consumer demand and wartime consequences. A blanket loan cancellation of $10,000 — $20,000, costing ~$24B on a national scale over a 10-year period, would provide consumers with even more runway and thus more room to spend, potentially further stimulating demand at a time of persisting supply limitations, and more urgently, record-high inflation. Add to that students’ collective spending power in 2022 of $600B, and the loan relief program quickly positions the economy to face perilous levels of stimulation.
Why, then, was the loan relief program enacted now of all times? Currently, the US has limited optionality on the front of increasing affordability on a national scale. Despite potential stimulatory effects, the Student Loan Relief Act seems to be the only option left. For instance, raising taxes to fund public colleges and universities (which would theoretically lead to cheaper tuition prices and better-quality education) has been a measure shunned by most states as it is widely held to hurt less well-off students the most, and that it is in violation of the US Constitution’s equal protection clause by way of preventing the reception of education on equal terms. On the front of subsidies exist Pell Grants, aimed to significantly reduce the financial burden of college students, but even that has largely waned in its purchasing power. It seems that the next best path forward for affordability measures is debt relief. The question of why Biden’s loan relief program
was enacted now is then a function of optionality, or lack thereof, but also, importantly, one of bipartisanship. Considering that Biden’s loan relief program takes the form of Income-Driven Repayments (IDRs), which the opposing Republican Party has historically supported as IDRs place partial financial responsibility on the students — and considering the narrow latitude available to the Administration on the front of affordability measures — the conception of the loan relief program despite already-rampant inflation starts to make sense. Nonetheless, to paint a clearer picture of why the Student Loan Relief Act came to be as it did and to assess its potential consequences requires venturing beyond just economic analysis. Especially as the November elections draw near, the scope of analysis in this piece must also include the politics that made it all possible.
Jonathan Bernstein, a policy columnist of Bloomberg, argues that President Biden is simply fulfilling his campaign promises by enacting the loan-relief program. In his presidency, Biden has touted the eradication of $10,000 — $20,000 in student debt as part of his campaign promises. While, yes, the program is a tangible manifestation of this promise to rescue students from rampant illiquidity, its skewed timing and execution calls for further scrutiny of its underlying rationale.
President Biden has been faced with two paradigm-shifting events since the inception of his presidency — the COVID-19 pandemic and the Ukraine war. In response to the pandemic, he injected $2T of stimulus into the economy. In the midst of the Ukraine war, though not directly in response to it, he enacted the loan relief program. How people perceive these reactions is reflected in today’s voter confidence numbers. More than half — 54% — of Americans disapprove of Biden. Most Americans apparently have not agreed with the actions of the President in the two years since his election. Considering such high rates of disapproval in tandem with the nearing midterms uncovers a reason as to why Biden has enacted the loan-relief program in such an economically untimely manner: to drum up support for the Democratic Party before the arrival of the midterms. In a study done on voter responses to campaign promises, it was found that voters prefer candidates whose budgetary allocations adhere to their promises. The enactment of the program, then, was partly motivated by the prospect of regaining progressive voters’ confidence. These findings shine light on the political motivations behind the loan relief program and help explain why the program, based unconvincingly on the HEROES Act and enacted during soaring inflation, came to be. Economic benefit and political strategy seem doubly embedded into the program, despite the importance of prioritizing the former in an emergency.
That said, it is important to note that Biden’s appeal to the progressives, and by extension, the debt relief program itself, is not fundamentally immoral and is rooted in good faith. As evidenced in Cruz’s study, it is strategically fruitful to implement measures that fulfill one’s campaign promises as a means to regain voter confidence, as long as such measures are founded in the name of economic and societal progress. Further, senior reporter Zachary Carter writes that debt relief has historically been a potent measure in upholding a capitalistic society. He points out that relief allows individuals and businesses continued participation in the economy in spite of extrinsic events (i.e. the pandemic) that impede their liquidity; if not for the power of relief, individuals and businesses face the danger of indefinite financial subjugation under circumstances wholly out of their control. People have historically used bankruptcy filings as a means to discharge their debt since the 16th century anyway, and around 500,000 bankruptcy filings took place in 2020 alone. It is only fitting that the Student Loan Relief Act expedites and widens the span of these discharges for the collective student body to combat the woes of the pandemic. Nonetheless, the prospect of elections and the progressives’ intent on victory — in short, their political strategy — taint the economic soundness of the Student Loan Relief Act and help explain why it is so mistimed, as political maneuvering seems to equally weigh against the good faith of the program. When time-dependent political priorities match time-dependent economic principles in this way, the former is upheld necessarily at the expense of the latter, and such measures as the debt relief program become marred by conflicts of interest.
It is evident in this analysis that Americans have found themselves in an inherently contradictory economy as a consequence of the pandemic and the war in Ukraine. It is difficult to discern a path forward when the plight of emergencies and the resulting stagflation call for liquidity while concurrently inviting inflation. It is true that bailouts and stimulus usually solve the problem of short-term liquidity, and that the non-obvious consequences reaching far into the future — such as the bursting of inflationary bubbles birthed by frivolity, inflation itself, and recessions — must be foundational considerations toward proposed solutions, but what if the economy is pulled in opposite directions? And what if a major election was just a few months away? Such is the problem of Biden’s loan-relief program. As it currently stands, the intent behind the loan relief program seems two-pronged; it seems to derive from both the need for economic rescue and from the progressive’s intent to maneuver toward electoral victory. At a time when economic stimulation is already in excess, Biden’s loan relief program seems to be positioned to make matters worse for the benefit of his Party. Though it makes sense for President Biden to return to his promises in appealing to the progressives and to explore new measures amidst narrow optionality, he must not shun that the burdens of the pandemic are dwindling and that inflation is at a record high — and though it is reasonable for the Administration to want to provide relief to the pandemic’s victims, it must not shun the necessity of rightly timing the bailout. Under the current premise of stagflation when the economy is simultaneously inflationary and recessionary, political leaders like Biden must be acutely cognizant of when to incite further stimulation. In bailouts as large as Biden’s loan relief program, economic prudence must precede political stratagems, lest the Administration plays a larger role than it already has in the catalysis of inflation.
