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What got Uncle Sam into student loans? Sputnik

Published: Friday, July 19, 2013 7:18 p.m. CDT

WASHINGTON – The space race didn't just bring America's young people Tang and toy rockets. It also launched federal student loans.

Since the Cold War days, student loan debt has soared to $1.2 trillion. Uncle Sam is now the big banker on campus. And Congress is fiddling with the interest rates college students pay.

How did we get here? Let's zip through the history of student loans, from Sputnik to Obamacare:

Americans got a shock from the sky in October 1957.

The first artificial satellite was passing overhead. And it wasn't just man-made, it was Soviet-made.

Beach ball-sized Sputnik stoked big fears that American students might not be up to the challenge of competing with Russian rocket scientists.

Calls to improve science and technical education led President Dwight Eisenhower to establish a low-interest college loan program through the National Defense Education Act of 1958. The loan dollars came directly from the government.

Then came Lyndon Johnson's "war on poverty."

Student loans got a major boost in 1965 as part of the president's Great Society initiatives. The Higher Education Act expanded loans and grants to help needy students, contributing to the era's college boom.

It also changed the way the federal loan program was financed. Instead of using government money directly, the loans would be made by bankers. But if students defaulted, the government guaranteed that it would cover the tab.

Lawmakers liked that approach because outstanding loans wouldn't show up on the government's books as red ink.

Richard Nixon brought us Sallie Mae.

That's the nickname for the Student Loan Marketing Association, which the president and Congress created in 1972 to help college students borrow more money.

Sallie Mae was a "government-sponsored enterprise." The U.S. Treasury helped it buy banks' student loans, freeing up the banks' money and encouraging them to do more federally insured lending.

Sallie Mae was fully privatized in 2004 and is now a corporate giant of the private student loan and college savings businesses.

Taxpayers took the risk; bankers got the rewards.

Using private companies to handle government-backed loans was more complicated and millions of dollars more expensive for taxpayers than direct federal loans. So President Bill Clinton sought to switch back to a direct-loan system more like the one in the Sputnik days.

But many Republican lawmakers opposed direct loans as a government takeover. And lenders didn't want the feds moving in on their lucrative market. Congress compromised in 1993 by phasing in some direct federal loans while keeping guarantees in place for the bank loans.

For more than a decade, the banks appeared to be winning the battle against direct loans. Colleges largely decided which kinds of loans to offer their students, and the aggressively marketed bank loans were more popular than the lesser-known government alternative.

The 2008 financial crisis changed everything.

With chaos on Wall Street and credit markets in a tailspin, student loan money started drying up. To keep money flowing to college students, Congress gave the Education Department power to step in and buy loans from cash-strapped lenders.

Meanwhile, with fewer banks offering loans to students, the number of colleges turning to direct federal loans shot up.

The shine was off the student lending industry.

In 2010, Uncle Sam took over.

The big lenders waged an intense lobbying campaign to hang onto the government-backed student loan market. But in the end, Congress approved President Barack Obama's plan to give commercial banks the boot.

It was packaged with legislation finalizing the sweeping health care overhaul often dubbed "Obamacare."

Now, the entire federal student loan program belongs to Washington.

Banks and other private lenders still loan money to students on their own, without a federal guarantee. Some students need the outside help to fill in the gaps as college costs keep climbing.

And many people are still paying off student loans they got through banks under the old Federal Family Education Loan program before it ended on July 1, 2010.

Under today's system, direct federal loans are considered the better deal for students.

The government loans generally have lower interest rates than bank loans. And the feds offer flexible payment options for people who have trouble with their bills after graduation.

Also, students who qualify for subsidized Stafford loans, based on financial need, don't rack up interest charges while they're in school. Students who go into public service careers such as teaching can have their loans forgiven or discounted. And graduates who work in exceptionally low-paying professions stand to have their loan balances completely forgiven after 25 years.

Students with federal loans are at the mercy of Congress and its bickering, however.

A messy standoff has temporarily doubled interest rates on new subsidized Stafford student loans this summer. But a bipartisan compromise promises to head off that rate hike before students sign up for loans in the fall.

___

Follow Connie Cass on Twitter: http://www.twitter.com/ConnieCass

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