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Will The Restart of Student Loan Payments, Will it Speed Up the Oncoming Recession?

Millions of young Americans will face the end of the student loan payment moratorium in September. After not paying anything for the past 3 years , students and parents will need to restart paying their loans on October 1st. It is the result of the recent passage of the “Fiscal Responsibility Act” to raise the debt ceiling. Under that act, the Biden Administration is prohibited from extending the pause on student loan repayments which have remained in place since March 2020.

“Student loan payments are set to resume in the coming months. For more than 40 million Americans carrying student loan debt, the timeline to resume making payments is now on the horizon. The debt ceiling deal passed earlier this month paves the way for student loan payments to resume as early as August 29, 2023, per the latest update from the U.S. Department f Education: Federal Student Aid. For most, this will be the first time making payments since the early days of the pandemic in March 2020.” – Zerohedge

As of the end of Q1-2023, almost $1.8 Trillion in student loan debt is outstanding. That debt carries a substantially higher interest rate than current bank loan rates.

“About 92 percent of student loan debt is federal, with interest rates ranging from 4.99 percent to 7.54 percent. Average private student loan interest rates, on the other hand, can range from just under 4 percent to almost 15 percent.” – Bankrate

When you consider the size of the debt outstanding, the impact on personal spending in the future is significant.

“The analysis is based on federal student loan data for the aggregate $1.4 trillion balance across the 40.5mn borrowers . Utilizing a 10-year payment period and a 5.8% interest rate, the bank calculates an approximate $390/month payment "

“Compared to a median pre-tax personal annual income of ~$57k, this payment represents an approximate 8% headwind to monthly income. In aggregate, this amounts to an “additional” (or rather, original, as the payments were there and then three years ago, they just stopped) $15.8bn in monthly payment for federal student loans affecting approximately 15.5% of the U.S. adult population (and 32% of the 25- to 34-year-old cohort).” – Barclays

Think about that for a second! Can you imagine losing 8% of your monthly income? That is a significant amount of money that you and other consumers were able to spend on other things. This is one reason the consumer has remained strong in the face of a slowing economy, an extra $390 a month in their pockets to be spent. Consumer spending makes up about 70% of the economy. That begs the question, will the restart of payments will weaken the economy?

Logically, the concern is that when student loan payments restart, that will divert spending from the economy into debt service.

Given the importance of consumer spending on overall economic growth, it will be difficult to avoid a recession.

According to a New York Fed study, "The average student loan payment is $393 monthly. For consumers taking advantage of the program, they have deferred 39 months’ worth of payments, resulting in more than $15,327 in additional discretionary income during the period, much larger than the amount most consumers received from other COVID stimulus programs.

That sudden increase of $393 per month in loan repayments will force prime-age consumers (those aged 18-44 years) to cut back on discretionary spending. Since portions of that particular demographic tend to prioritize experiences over goods consumption, we will likely see a more significant impact on services which, as discussed previously, has been the one support keeping the economy out of recession.

This isn’t the first time we have seen the manufacturing side of the economy contract, but services remained robust enough to keep the overall economy out of recession. The economy similarly avoided a “recession” in 1998, 2011, and 2015.”

While it is not a good idea to bet against the U.S. consumer, the restarting of student loan payments is likely a hurdle the economy will struggle with. Furthermore, it is likely that the stock market has not priced in the impact that this will have on corporate revenue and earnings.

We will find out later this year.

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