Income-contingent loans: the fair(er) financing system.

Australian economist Bruce Chapman is the architect of a financing system for students that can also be adopted in other areas of life. He says: “Income-contingent loans promote social harmony, offset the drawbacks of the brain drain from emerging economies and can sometimes even protect the environment.”

Professor Chapman, Australian universities charge tuition fees, yet no student needs to worry about getting into debt. How does that work?

Bruce Chapman: There are two critical factors. Firstly, thanks to the Higher Education Contribution Scheme, or HECS for short, students don’t have to pay upfront, only after they have completed their studies. And secondly, there are no fixed installments or set time frame for repayments, which are linked to income. This is known as an income-contingent loan (ICL) scheme. HECS recipients do not have to start repaying the loan until they are earning more than AUD 45,881 a year. The installment amounts vary depending on the respective income of the HECS recipient. If their income falls below this threshold again at some point they do not have to pay back the loan during that period. This means that nobody has to make payments that they cannot reasonably manage.

This concept is fundamentally different from the usual financing methods…

Yes, because in most countries that charge tuition fees there are binding provisions for repayment. This is a huge risk. Students are undertaking to make a payment in the future without knowing if they will even be able to afford it. Their future circumstances are not taken into account at all. Take the USA, for example, where students have to start paying back their loan very soon after graduation. When the financial crisis broke out in 2008, there were hundreds of thousands of graduates who were taking 9 to 12 months to find a job.
Income-contingent loans: Students sit at computers in a library.

How does it affect a country or a society when young people start off their professional lives in this way?

It’s hard to put into figures, but it naturally has an impact on a lot of areas of life. If they cannot pay back their debts their credit score drops. This means that they also cannot get another loan, are not able to pay anything in installments, take out a mortgage and so on. In Thailand, payment defaults are even considered a criminal offense and many former students have been taken to court for this. A repayment system linked to future income protects people from these kinds of unpleasant consequences. Another benefit is that if graduates emigrate to richer countries they pay back their student loans from there, so the money would flow back into their home countries. This is called a “brain drain” tax. This particular model doesn’t exist yet, but with ICL it is feasible.
Income-contingent loans: A mother sits in front of a computer at home with her baby.
Definitely. And there are numerous case studies backing this up. I think a good example is maternity leave. In Australia, mothers get state benefits for around 20 weeks after the birth of a child. A repayment based on the future income of the parents would allow a much longer period of parental leave. Another possibility for Australia would be to fund environmentally friendly energy. At present only people with enough money are buying solar panels. But the government could use an income-contingent subsidy to allow poorer people to do this too.

Does that mean that an income-contingent financing arrangement could even have a positive impact on environmental protection?

Absolutely. And what’s more, that initial investment in solar panels allows you to reduce your power bills. It is specifically those people with less money who are not able to do this and who therefore end up paying more for their energy, perpetuating the situation.

So are you saying that income-contingent financing would also prevent the gap between rich and poor from widening?

That’s a big question. What is certain is that ICLs are fair and help poor people. There were various surveys in Australia and the majority of people felt that such a system was equitable. Incidentally, German education economist Ludger Wössmann carried out an interesting survey on this issue. In Germany, tertiary education is financed by the government, i.e. by tax payers, although the majority of the population does not attend university. When Wössmann asked whether tuition fees should be introduced, most people were against it. But when he then asked what they thought about only having to pay back the tuition fees when you earned enough, most people were in favor.
In Germany, tertiary education is financed by the government, i.e. by tax payers, although the majority of the population does not attend university.
Bruce Chapman, Australian economist and architect of the Higher Education Contribution Scheme (HECS).

But would such systems be financially viable across the board? Surely there would be a lot of bureaucracy involved.

This question also came up immediately when we introduced HECS. And it turned out that this is simply not true. ICLs can be administered very efficiently. After all, there are already a lot of income-dependent contributions that employers have to deduct, like income tax, and statutory health insurance in both Germany and Australia. The extra work involved is miniscule.
Income-contingent loans: Bruce Chapman, Australian economist and architect of the Higher Education Contribution Scheme (HECS).

Bruce Chapman

Bruce Chapman is an economist and professor at the College of Business and Economics at the Australian National University in Canberra. Chapman’s main research interests are labor markets and social policy. He is the architect of the Higher Education Contribution Scheme (HECS), which has been helping Australian students fund their studies since 1989, and a former advisor to the Australian Government.
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