Authors: Shiro Armstrong and Bruce Chapman, ANU
The Japanese government is considering major reform to the higher education tuition system by moving to an income-contingent Loan scheme similar to systems in Australia, England, Hungary, the Netherlands and some other countries.
The system is based on a simple but powerful concept: with an income-contingent loan scheme, students enter university at little-to-no immediate cost and pay off their tuition later when they are earning incomes that are above a prescribed minimum. If over their lifetimes graduates don’t earn above these amounts then they are not required to repay any of the debt.
Most countries have student loans that are not income-contingent. This means that — like housing mortgages — these loans need to be repaid at regular intervals after leaving university no matter the income or circumstances of the graduate. This can lead to repayment hardships and significant defaulting on student debts, and this ruins personal credit ratings and requires the taxpayer to cover the difference.
An income-contingent loan scheme effectively insures against loan repayment hardships and default. If a graduate with an income contingent loan does not receive a relatively high income in a given year, repayments are simply postponed and there is no default.
With a normal student loan, if a cohort of students happens to graduate during an economic downturn (such as during the global financial crisis) they would have to repay their debts even if they are unemployed or have meagre incomes. But with an income-contingent loan, such bad luck does not matter: graduates are protected, and so is the government’s future loan collection revenue stream.
A system such as this improves access to university education for prospective students from all socioeconomic classes. Surveys reveal that many prospective and poor university students in Japan are choosing not to enrol because of worries about not being able to repay loans. An income-contingent loan system would therefore improve both the equity and the efficiency of the higher education sector, as well as make government funding more sustainable.
The income-contingent loan system is not just conceptually robust but has also been shown to work internationally, where it s considered to be best practice. Japan has the opportunity to design and implement a system that benefits from the experience of its application in other countries.
Most countries that have the scheme in place make loans available to all students entering university, and this universality is an important aspect of the system. But that doesn’t mean that all students have to take out the loan. Parents can choose to pay the tuition for their children at enrolment upfront — in Australia around 20 per cent choose this option — because they have the money and do not want their children to incur the forward liability.
In Japan it can be expected that at least that proportion of students from well-off families will pay upfront given the tradition of Japanese family support for education tuition.
By definition, a universal income-contingent loan scheme covers students from well-off backgrounds as well as those likely to succeed from other socioeconomic backgrounds. The experience in Australia, New Zealand and England is that graduates who earn a high income after graduation repay their debt quickly and without trouble. This aspect of universal coverage assists the fiscal viability of the scheme.
When Australia first introduced income-contingent loans there was a discount on tuition for paying up front. There are other ways the government can encourage upfront or faster repayment, such as charging an interest rate or a surcharge on the loan. Many parents who are used to paying for private schooling will likely continue to pay for their children’s education at the university level. But those who cannot afford to do this will still gain access to a university education without loan repayment worries.
Theory and experience demonstrate that having a non-universal income contingent loan scheme is a mistake. The experience in South Korea is a good example. In 2010, an income contingent loan system was introduced but eligibility was restricted to relatively low-income families. This had the unintended consequence that while some graduates may not do well in the labour market, their families will still have paid the fees upfront because they didn’t have access to an income-contingent loan. Japan should avoid partial coverage of an income-contingent loan scheme by making it universal.
Other design features of higher education financing can complement an income-contingent loan scheme to further enhance equity and efficiency. They include grants for poorer students to cover living costs or extension of the scheme to cover some living expenses as well as tuition fees. Helping poor students gain access to universities doesn’t have to compromise the benefits of a universal and fair income-contingent loan.
There is always uncertainty in the labour market and about people’s future circumstances. As Japan undertakes important labour market reforms and moves away from the lifetime employment system and other rigidities, uncertainty will increase. Income-contingent loan systems can assist students and graduates to handle this kind of unanticipated adversity.
An income-contingent loan system increases access to university education, reduces the effects of unanticipated financial hardship, promotes equity, and makes the funding of Japanese higher education more sustainable. Japanese student loan reform based on this scheme is a no brainer.
Shiro Armstrong is Director of the Australia–Japan Research Centre at the Australian National University.
Bruce Chapman is Professor of Economics at The Australian National University and the architect of the Australian higher education financing system.
The authors are involved in a collaborative project with the Japan Center for Economic Research to study an income-contingent loan scheme for Japan.