Banks are girding for battle as the government studies whether to force lenders to bid at auction for the right to make student loans.
Government officials claim the auctions would introduce a sorely needed market-based mechanism to the setting of student loan interest rates. However, the industry claims that auctions would force banks to cut back on customer service and drive smaller players out of the business.
"Auctions create oligopolies, oligopolies disparage customers," said John J. Peters, president of the education finance group at PNC Bank, Pittsburgh.
At the Consumer Bankers Association's student lending conference last week, Mr. Peters said auctions are not needed because lenders in the $22 billion industry already compete with each other on service.
The seeds of the debate were sown in October when President Clinton signed the Higher Education Amendments of 1998, which set new interest rates for the student loans and mandated a two-year study of how to gear the program so that bank profits would be determined by market conditions.
Sen. Edward M. Kennedy, D-Mass., ranking minority member of the Labor and Human Resources Committee, had pushed for a pilot auction program, but settled for the two-year study.
Currently, the interest rate banks charge students is calculated using a formula set by Congress every five years. In exchange, the government guarantees the loans and absorbs some of the risk that banks will have to borrow at rates much higher than what they earn on student loans.
"It makes no sense for Congress to set the interest rate on student loans when a far better alternative is available," Sen. Kennedy said through a spokesman. "An auction procedure would bring needed competition to the process and prevent lenders from gouging students and taxpayers."
The government has no way of knowing whether banks are making more or less money from the student loan program than they claim. Switching to an auction-based system, according to advocates, would draw out that information by forcing banks to bid against each other for the business.