WASHINGTON - President Bush signed legislation yesterday that will test the idea of letting colleges make and service student loans, a radical departure from the current system comprising banks and state education authorities.

The new law creates a four-year demonstration program beginning in 1994, under which the federal government will provide seed money to colleges to set up revolving loan funds for student aid.

The direct-loan pilot program will exist alongside the current system. Now, the federal government guarantees loans made to students by commercial banks, which in turn sell the loans to state higher education authorities. The authorities often finance those purchases with tax-exempt bonds.

Banking and education lobbyists have warned that a permanent direct-loan program would lessen the need for the state education authorities and, in turn, for issuance of tax-exempt student loan bonds.

The measure is part of a larger package reauthorizing the Higher Education Act of 1965, which was due to expire later this year.

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