In Defense of the Indebted Kids

It’s graduation season again.  Time to write about how totally screwed today’s college graduates are.  They didn’t learn enough in school, certainly not enough about personal finance, they owe amazingly large amounts of money, Grads Kit and they have bleak employment prospects.  (Note to college seniors: anybody over 30 who says they wouldn’t trade places with you is lying.)

This year, there is hand-wringing particularly over the debt part.  Bargaineering asked last week if students should have credit cards at all.  The credit card reform act passed by the House last week would ban the issuing of credit cards to those under 18.  If that survives the Senate, it will mean that credit cards will join such things as alcohol that we expect young people to learn about on their own after they leave home.  (Will there be big burly guys at the door of the bank checking ID?)

There can be no doubt that young people can do dumb things with credit cards. Nor do I doubt that they are more likely to do so than older Americans.  In the immortal words of that guy who had the job before Obama “When I was young and foolish I was young and foolish.”

But when it comes to debt owed by college graduates, credit cards are a small part of the story.  According to a recent study by Sallie Mae, the average credit card debt for a college senior is $4,138.  I had a lot of trouble finding an up to date number for the average student loan burden, but in 2004 the roughly two thirds of graduates who had any debt owed an average of $19,202.

The deeply indebted early-twenty-something is almost a cliché of the personal finance world, particularly of the PF blogosphere. Often left unsaid in the many discussions of such situations is the implication that there is something terribly wrong with somebody so young starting life out so deep in the hole.

Of course, there are kids whose large debts are the result of foolish behavior that should be regretted.  (And I am not excluding loans for tuition from this.  College degrees are often, but not always, a good investment.)  And there are some incredibly extreme cases out there.  Free Money Finance ran an email from a 23 year-old who owed $265,000 the other day.

But big picture, and in general, I believe that starting your working life in debt is the natural, logical, and appropriate thing.

Suppose that you were a very precocious and Type A college freshman.  Using your university’s economics library you work out a very detailed projection of your future earnings each year until retirement.  And suppose that projection said that you would make almost nothing until graduation, a little more than nothing after graduation, steeply increasingly more through your twenties, and then about the same, perhaps with modest increases over inflation, from your mid-thirties to retirement.  That’s a reasonable description of a lot of careers.

Now suppose that, being very Type A, you decided to plan out how much to save and how much to spend each year for the rest of your life.  Would you decide to spend 90% of your income in every year until retirement, so that your standard of living started out destitute, was very comfortable just before retirement, and became modestly comfortable after retirement?  Or would you decide that you would be much happier trying to maintain approximately the same standard of living throughout your life?  If you were rational (in the economist’s sense of the word) you would choose the latter.

Maintaining the same standard of living throughout life means borrowing significantly in the early years, barely making any dent in reducing that burden until early middle age, and then paying it off and saving for retirement in the peak earning years.  That’s obviously very abstract, and the real world has all sorts of complicating details, but as a general principle it makes rational sense as a lifetime plan for spending and saving.

Which is why I get very uncomfortable whenever anybody suggests a generic target savings rate.  In my view, saving nothing at all as a 25 year-old may be fine, but saving 25% as a 55 year-old may be too little.

College graduates enter the adult world with debt, sometimes a lot of it.  Of course they do.  They’re supposed to.  I’m not sure that I would switch places with the guy $265K underwater, but I’d think about it.

[Photo: Kit]

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