Why Do Families Borrow So Much for Higher Education

Since the 1992 Amendments to the Higher Education Act (HEA92) increased the borrowing limits for education loans, college students have been financing their higher education with more education-loan debt than ever before. This study uses the policy changes surrounding the HEA92 to investigate why families have borrowed much more. Two possible explanations are considered: (1) students borrowed more to afford a better education, which implies that borrowing constraints were important for college decisions; and (2) students did not increase education investments but used education loans as substitutes for other financial instruments that they would have used for higher education. The HEA92-related changes in education-loan limits varied substantially across families. I identify the effects of the limit changes on three kinds of outcomes following the HEA92: college choices, the amount of education loans, and use of other financial instruments, using the corresponding pre-HEA92 behavior as counterfactuals. The empirical results support the second explanation. First, the loan-limit changes did not significantly affect college choices, such as the quality of the college represented by the cost of attendance, the probability of going to a 4-year private school, of being a fulltime student, and of pursuing a bachelor’s degree. Second, in response to the increases in education-loan limits, families significantly reduced the use of other financial instruments, including loans from parents, parents’ cash transfers, and working while in school, and work-study aid. For example, both the percentage and the amount of students’ borrowing from parents decrease substantially. The results still hold when the responses of college choices and financial instruments to the limit-changes are allowed to vary linearly with income.