Bankers: College debt bubble mimics housing bubble

Meghan Foley, Wall St. Cheat Sheet | WallSt.cheatsheet

A group of bankers have just dumped two more problems on the Federal Reserve's plate.

The Federal Advisory Council, made up of 12 bankers who meet quarterly to advise the central bank, warned that farmland prices are inflating "a bubble" and growth in student-loan debt has "parallels to the housing crisis," which was the primary cause of the Great Recession in the U.S.

Their alarm comes at a time when financial heavyweights on the Federal Open Market Committee, the Federal Reserve's policy-making arm, are debating whether the benefits created by their monthly purchases of $85 billion in bonds outweigh the risk of financial instability.

Fed Chairman Ben Bernanke has argued time and again that the program is essential to the economic recovery, but others are less convinced. Fed Governor Jeremy Stein and Kansas City Fed President Esther George have raised concerns the extended period of low interest rates is increasing the risk of asset bubbles.

"Agricultural land prices are veering further from what makes sense," noted the minutes of the FAC's Feb. 8 gathering, according to documents obtained by Bloomberg news service through Freedom of Information Act requests. "Members believe the run-up in agriculture land prices is a bubble resulting from persistently low interest rates."

As for student loans, recent growth has pushed debt levels to nearly $1 trillion, meaning it "now exceeds credit-card outstandings and has parallels to the housing crisis," the council said after its Feb. 3, 2012, meeting. The bankers told the FOMC that student lending exhibited characteristics similar to those seen in the housing crisis, including "significant growth of subsidized lending in pursuit of a social good" — in this case, higher education rather than expanded home ownership.

Just as the mortgage lending boom pushed home prices upward, student loan lending has put upward pressure on tuition. The bankers said both examples showed a "lack of underwriting discipline."

Bernanke has dismissed parallels between student lending and the subprime mortgage crisis. "I don't think it's a financial stability issue to the same extent that, say, mortgage debt was in the last crisis because most of it is held not by financial institutions but by the federal government," Bernanke told a Bloomberg reporter on Aug. 7.

After the Fed first lowered its target interest rate to near zero in December 2008, the central bank promised to keep it at that level until the unemployment rate — currently at 7.5%, drops to 6.5% or the annual inflation rate rises above 2%. The Fed has also launched three rounds of bond purchases, called quantitative easing, which have pushed its balance sheet to a record $3.3 trillion as of May 1.

The QE spending's impact on farmland prices is being documented by regional Fed banks, particularly across the Midwest's corn belt. The Chicago Fed said the value of irrigated cropland in its district rose 16% in 2012, while the Kansas City Fed reported a 30% jump in the same period.

"Investors who are seeking a positive return on their funds have shied away from bond markets," the council said, according to a Bloomberg story. Instead, they opted for real estate "as both a hedge against inflation and a means of achieving better than the negative real return associated with fixed-income securities."

Increases in land prices have continued even as commodity prices have weakened. Since hitting a record high in March 2011, the S&P GSCI agriculture index, a broad measure of price pressures on commodities, has fallen 25%.

The FAC said it supports the central bank's monetary policy at their February meeting, noting that the recoveries in the housing and auto sectors have been "especially encouraging."

Yet, there have been "collateral consequences" of the current policy; the low-interest environment has pushed "many to seek higher returns by accepting greater interest rate or credit risk," the FAC's minutes said. "As the period of low rates is extended, these pressures have increased."

You can follow Foley on Twitter @MFoley_WSCS. Wall St. Cheat Sheet is a USA TODAY content partner offering financial news and commentary. Its content is produced independently of USA TODAY.