The Columbia Law School Blue Sky Blog is now running my article, “Law School Moral Hazard and Flawed Public Policy”
Here’s the link: http://clsbluesky.law.columbia.edu/2015/05/28/law-school-moral-hazard-and-flawed-public-policy/
In June, the legal services sector lost more than 3,000 jobs. According to the latest Bureau of Labor Statistics data, the sector has gained only 1,000 net jobs since June 2012. In the last two months, 6,000 positions disappeared.
No market solutions here
In a properly functioning market, reduced demand would prompt suppliers to cut output in search of equilibrium. But the legal profession consists of several distinct and dysfunctional markets.
For example, there’s plenty of unmet demand for lawyers from people who can’t afford them. Reduced federal funding for the Legal Services Corporation has exacerbated that problem. So has the rising cost of law school tuition and resulting student debt. Over the past 25 years, tuition increases for law school have far outpaced the rest of higher education.
In another segment of the legal market, demand for corporate legal work has been flat for years. But law schools business models generally have focused on filling classrooms, regardless of whether students will ever be able to repay their six-figure educational loans. Because most tuition revenue comes from federally guaranteed loans that survive bankruptcy, schools have no financial incentive to restrict enrollments — that is, until they run out of applicants.
When might that happen? Not soon enough, although recent headlines imply otherwise.
High-profile reductions in class size
Some schools have reduced the size of their entering classes. For example, the University of the Pacific McGeorge School of Law announced that it is reducing enrollment from the current 1,000 to about 600 — an impressive 40 percent drop.
But as Dan Filler observed at the Faculty Lounge, the reality may be less impressive. Although McGeorge graduated 300 new lawyers annually from 2010 through 2012, its first-year enrollment hasn’t kept pace with those numbers. In 2012, the school had 248 (day and evening) first-year students. In 2011, it had 215. A normalized class enrollment of 200 would be a 20 percent reduction from recent levels. That’s positive, but as explained below, not nearly enough.
About those declining applications
A recent Wall Street Journal article about the “plunge” in law school enrollments noted that “applications for the entering class of 2013 were down 36 percent compared with the same point in 2010…” But a more relevant statistic should be more jarring: “Law school first-year enrollments fell 8.5 percent nationwide.”
Here’s another way to look at it: For the fall of 2004 entering class, law schools admitted 55,900 of 98,700 applicants — or about 57 percent. For the fall of 2012 class, law schools admitted 50,600 of 68,000 applicants — almost 75 percent.
About those jobs
The increase in the percentage of admitted applicants is one reason that the lawyer bubble is still growing. Another is the stagnant job market. In 2008, the Bureau of Labor Statistics projected 98,500 net additional attorney positions for the entire decade ending in 2018. In 2010, it revised that estimate downward to project 73,600 net additional positions by the end of 2020.
Even allowing for attrition by retirement, death and otherwise, the BLS now estimates that there will be 235,000 openings for lawyers, judges, and related workers through 2020 — 23,500 a year. Last year alone, law schools graduated 46,000 new attorneys.
If law schools as a group reduced enrollments by 20 percent from last year’s graduating class, they would still produce almost 37,000 new lawyers annually — 370,000 for a decade requiring only 235,000 — not to mention the current backlog that began accumulating even before the Great Recession began.
One more thing
Which takes us back to the University of the Pacific McGeorge School of Law. According to its ABA submission, only 42 percent of its class of 2012 graduates found full-time long-term jobs requiring a JD. Even if the school caps entering classes at 200, its resulting placement rate would rise to only 64 percent.
U.S. News rankings considerations loom large in all of this. Law schools fear that reducing LSAT/GPA admission standards would hurt their rankings. In that respect, McGeorge’s class size announcement overshadowed a more unpleasant disclosure that new ABA rules now require: scholarship retention rates.
Many law schools try to enhance their U.S. News rankings by offering entering students with high LSATs so-called merit scholarships. But those scholarships sometimes disappear for years two and three. According to Prof. Jerry Organ’s analysis, only 42 percent of students entering McGeorge in the fall of 2011 kept their first-year scholarships. Eleven schools (out of 140 that offered conditional scholarships) did worse.
The overall picture is ugly. Some schools are laying off faculty and staff to counter the financial impact of reduced enrollments. But they’re also keeping tuition high and spending money on LSAT-enhancing scholarships that disappear after the first year, presumably to be replaced with non-dischargeable loans. Meanwhile, almost all of today’s students are incurring staggering educational debt, but many of them won’t find jobs sufficient to repay it.
That’s not a march toward market equilibrium. It’s a growing bubble.
The words seem so innocuous — “federally guaranteed student loans.” But what do they mean when someone actually defaults and the government has to make good on its guarantee? A recent article in The New York Times provides the answer.
A brief review of the business model
This post is the latest in what became my unintended series on the law school business model. It began with The Wall Street Journal’s misrepresentation in a lead op-ed piece. The Journal claimed that Congress made student loans non-dischargeable in 1976 because of widespread abuse. That is, graduates benefited from government loans and then declared bankruptcy on the eve of lucrative careers to avoid their debt. There’s no delicate way to put this: The WSJ was perpetuating a thirty-five-year-old myth.
Then I considered law schools that offer tuition discounts in the form of merit scholarships. There’s no mystery there: a secretive process of awarding money facilitates an individualized approach to pricing that maximizes tuition revenues while enhancing a school’s U.S. News ranking.
Most recently, I turned to yet another element of the current law school business model: raising the list price of tuition while reserving the flexibility to move lower as needed to attract particular candidates.
Follow the money
Now consider the source of all that tuition money. Some people are able to pay their own way, regardless of the cost. But they’re in the minority. Matt Leichter reports that the 44,000 law graduates in the class of 2010 took on $3.6 billion in debt, up sharply from $3.1 billion only two years earlier. The number is climbing as tuition goes up.
The chances that recent graduates will secure a job requiring a law degree are about 50-50. Although others will get non-legal jobs that pay reasonably well, the ranks of new lawyers with loans they can’t afford to repay is growing.
So what?
Students now have an income-based repayment (IBR) option for federal loans; that may afford some relief. But as Professor William Henderson explains in “The Law School Tuition Bubble,” two problems arise. First, dedicating fifteen percent of income for the requisite twenty-five years of a total IBR plan is akin to a permanent tax on the already low incomes of those lawyers. Forget about saving for retirement or funding their own kids’ higher education.
Second, those IBR participants who make it all the way to the end of the twenty-five years will have their remaining loan balances forgiven. That will add more debt that that the federal treasury will bear — for anyone who worries about such things.
Default
For recent graduates with limited job prospects, IBR is better than nothing. But some will default on their loans, just as their predecessors have. This poses no problem for law schools; they’ve already collected their tuition money and don’t have to return it.
Default poses no problem for lenders, either. That’s because educational debt is not dischargeable in bankruptcy, except in rare cases that satisfy the “undue hardship” requirement.
Moreover, the federal guarantee kicks in for private lenders, at which point the government foots the bill. But that’s not the end of the story. As the Times article explains, the newest growth industry is student loan debt collection. Last year, the government paid more than $1.4 billion to debt collection organizations it hired to track down student defaulters.
A Most Unfortunate Comment
For anyone who doubts that this is unapologetic intergenerational exploitation of the young by the old, consider these comments from Jerry Ashton, a consultant for the debt collection industry and the winner of the most Unfortunate Comment Award to date:
“As I wandered around the crowd of NYU students at their rally protesting student debt at the end of February [2011], I couldn’t believe the accumulated wealth they represented – for our industry. It was lip-smacking.”
Ashton included a photograph of several students to which he added these details: “a girl wearing a t-shirt emblazoned with the fine sum of $90,000, another with $65,000, a third with $20,000 and over there a really attractive $120,000 was printed on another shirt.”
Someday this will all come crashing down. I fear that people like Ashton — and merger/acquisitions specialist Mark Russell, who described student loans as the debt collection industry’s “new oil well” — will make money on that event. too. Shame on them. Shame on all of us.
One of the next big bubbles is educational debt. A recent article in The New York Times notes that it exceeds one trillion dollars — more than total consumer credit card debt. Meanwhile, according to The Wall Street Journal, the Federal Reserve Bank of New York reports that for those aged 40 to 49, the percentage of educational debt on which no payment has been made for at least 90 days has risen to almost 12 percent. Sadly, history will view these as the good old days.
Middle-aged education debt blues
Growing delinquencies among middle-aged debtors result from two phenomena. First, some people took out loans for their own education, such as the 50-year-old who woman told the WSJ that she got her bachelor’s degree in 2008. The recession pushed many newly unemployed workers into higher education as a way of reinventing themselves. For some, the strategy worked.
A second group consists of parents who took out loans to fund their kids’ education. A related Department of Education program is, according to the Journal, “among the fastest-growing of the government’s education loan programs.”
Now extrapolate
For anyone who thinks this problem is bad now, wait until today’s twenty-somethings who went to law school and can’t get jobs reach their forties. Indiana University Maurer School of Law Professor William Henderson has analyzed the origins and long-run implications of current trends. His article with Rachel Zahorsky, “The Law School Bubble,” describes them in thoughtful detail.
Recent graduates in particular know where this is going because many are already there: Lots of debt — averaging $100,000 for recent classes — and limited prospects of employment with which to repay it. Meanwhile, the nation’s law schools are turning out more than twice the number of lawyers as there are law jobs.
The problem is growing, but so is denial. Recent headlines proclaimed that a drop in law school applications must be a sign that the market is self-correcting. After all, first-year enrollment fell by seven percent — from 52,500 in 2010 to 48,700 in 2011. Now for some context: The current number is about the same as total one-L enrollment was each year from 2002 to 2006.
How are law schools responding to this continuing crisis? Some better than others.
Law school reactions
Deans at George Washington University, Hastings and Northwestern recently announced that they were considering plans to reduce enrollments. Meanwhile, Thomas M. Cooley Law School opened a new campus in Tampa where it has signed up 104 students — double the number it initially expected. Last month the WSJ quoted Cooley’s Associate Dean James Robb, who said that the school “isn’t interested in reducing the size of its entering class on the basis of the perceived benefit to society.”
All right, let society take care of itself. But how about the school’s students? Two weeks after the Journal article, the ABA reported recent law school graduate employment data that, for the first time, refined one category of “employed” to include only jobs requiring a J.D. degree. For that group, Cooley’s “full-time long-term” rate for the class of 2011 nine months after graduation was 37.5%. Remarkably, more than two dozen law schools did even worse.
I wonder how those who run Cooley — and many other law schools — would feel if they had to bear the risk that some of their alumni might default on their educational loans. For now, we’ll never know because: 1) the federal government backs the vast majority of those loans, and 2) even bankruptcy can’t discharge them.
Meanwhile, a court recently dismissed Cooley alumni’s complaint alleging that the school’s employment statistics misled them into attending. The most revealing line of Senior Judge Gordon Quist’s ruling is the conclusion:
“The bottom line is that the statistics provided by Cooley and other law schools in a format required by the ABA were so vague and incomplete as to be meaningless and could not reasonably be relied upon.”
Too bad for those who did. In some ways, the profession is a terrible mess — and it’s just the beginning.
Recently on ABC’s “This Week with George Stephanopoulos,” the usually thoughtful George Will practically jumped from his seat at the prospect that the interest rate on student loans might continue at 3.4 percent (based on a federal subsidy that President George W. Bush signed in 2007), rather than move up to 6.8 percent. He was — for him — apoplectic at the idea of creating what he was sure would become yet another “entitlement.”
Will opposes such relief because the average college student graduates with around $30,000 in loans and, over a lifetime of earning superiority over non-college graduates, he says, “that’s a pittance.” One man’s pittance is another man’s fortune, I guess. Then again, Will has a much different opinion about a slightly greater amount — $36,900 — when it’s the additional tax he’d pay on a million dollars of annual income if the Bush tax cuts expire.
But rather than search for consistency that can’t be found, put Will’s comment next to Mitt Romney’s related suggestion that young people should do everything they can to attend college, even “borrow from your parents.” If only all college-bound students had parents who could float them six-figure loans for however long it might take to repay them.
About those big salary differences
That leads to the point that Will sidestepped: repayment could take a while. Will’s “pittance” argument relies on studies showing that a college degree produces better lifetime earnings for those who obtain them. Historically, that’s been true. But it ignores what’s been happening to the newest college graduates. The NY Times recently reported how unemployed graduates have been flocking to unpaid internships. Sadly, two years ago it ran a similar piece. Meanwhile, the Times also reports, they and their families are buried in debt.
Ultimately, many who get degrees will fare better than their non-degree counterparts. But at the moment there are more unemployed and underemployed recent college graduates than ever. Studies show that their delayed entry into the labor market will likely translate into huge lifetime earnings losses. As baby boomers defer retirement because the Great Recession wiped out their savings, the plight of young people worsens.
How about lawyers?
Among the most burdened in the youngest generation of debt holders are new attorneys. Their average law school debt exceeds $100,000 — and it’s climbing. So is their reported unemployment rate, especially now that law schools have to start disclosing the truth about their graduates. If you’re wondering why all of those students went to law school when there are legal jobs for, at most, half of them, deceptive deans have been a big contributor.
On their promotional websites, law schools routinely reported more than 90 percent of their graduates as employed. But they didn’t mention that the number included those with part-time jobs, non-lawyer positions (like working at Starbucks), or temporary employment by the law school itself for just long enough to count in their U.S. News ranking.
A compromise
Tavis Smiley responded to Will’s position with this: Wall Street bankers got zero-interest rate loans from the government; why can’t students get a break on theirs? That’s not a bad question. However, not all students need relief from their student loans. Families like the ones Mitt Romney had in mind sure don’t, but many others do. The Wall Street Journal recently profiled one — a 34-year old unemployed attorney with more than $200,000 in educational loans, mostly from law school: “It’s a noose around my neck that I see no way out of.”
Here’s a compromise: get rid of the noose by returning to pre-1976 bankruptcy rules. In those days, any baby boomer who wanted out of even federal student loan debt could get it. Filing for bankruptcy was an extreme step and few did it. In fact, there was never empirical support for changing the rule. There was even less reason for the added protection against discharge that private lenders received in 2005 — a change that no legislator is currently willing to admit sponsoring.
Those who cry “moral hazard” should prove it — not simply list a theoretical parade of horribles that never happened under the old rule. If the bankruptcy option was good enough for baby boomers, it should be good enough for their kids.
The Belly of the Beast 