The UK government announced on Monday that it would start selling off some of its Income Contingent Repayment student loans, made before 2012, through a securitization structure arranged by Barclays, joined by Credit Suisse, Lloyds and JP Morgan as bookrunners, with Rothschild as independent adviser.
The government aims to raise £12bn from several student loan securitizations by the end of 2020-21, while the first deal will be backed by student loans with £4bn face value (but will raise less than this figure as student loans are subsidised, and some of the loans are unlikely to ever be repaid).
It will likely work well for investors — as the government points out, the structure of the loans, which pay off at a rate linked to the wage earnings of the former students (9% of everything they earn over £17,495), “will provide an entirely new asset class linked to UK real earnings growth”.
Some of the problems with this loan book (the Student Loans Company only receives updated loan balances once a year, for example) will also be mitigated by the structure. The Department for Education will be the deal’s master servicer — so instead of counterparty risk in the deal, there will be UK government risk.
Collecting the payments is also likely to be straightforward. Student loan payments are collected through the general taxation system, alongside "Pay As You Earn" income tax which is deducted from payslips for UK employees before the money hits their bank accounts. Though the loans are unsecured, unless the former students flee the country, there’s little possibility of long term escape giving investors will have all the power of the taxman to make sure they get their money back.
But it is less clear what the government gets out of it. The press release stated that it “will enable the government to declassify the loans from its balance sheet and generate cash while transferring the risk and uncertainty of future repayment cash flows to investors”.
It’s true that the government entity holding the loans, UK Government Investments, has an ordinary corporate style balance sheet. But it’s not true for the UK government as a whole — at least not in any way that matters.
If investors are so inclined, they can tot up everything the government owns (the continental shelf; reversion rights for every 1,000 year lease Henry VIII ever granted; an option to buy any piece of land in the country via compulsory purchase; landing rights at Gibraltar) and take every government liability (Gilts; pensions; the cost of decommissioning nuclear submarines).
You’d then have government “equity”, which you could divide by every citizen to create an unholy fusion of corporate finance and democracy. But nobody ever does this, because it’s stupid.
Instead, developed market governments are always analysed on cashflows and macroeconomic variables. The confidence of UK consumers or industrial purchasing managers is much more important than “the government’s balance sheet” for any investors wishing to lend the UK money.
But that’s not to say that the government should never privatise anything. If the private sector would be a better holder of an asset than the government, then, provided it meets social objectives, why not?
It is unlikely, though, that this applies to the student loan book. Investors, as mentioned, don’t get to control anything about how the loans are collected, and the UK government is surely much better able to bear “the risk and uncertainty of future repayment cash flows” than any investor. Without the ability to enforce on the loans, it’s simply a play on the flows from a given taxation pool, rather than a true secured financing.
So why not pick any other readily ring-fenced stream of taxation and sell bonds based on that? Inheritance tax flows could be the perfect asset to offer a natural long-dated hedge for life insurers, for instance.
So we should consider the only plausible reason why the government might want to do the sale — because it will cut government borrowing elsewhere.
Every pound raised here will not have to be raised through other forms of government borrowing, and won’t weigh on more important proxies for government finance than the “government balance sheet” like the public sector net borrowing requirement. It doesn’t matter what long term subsidies it takes to shift these assets, because these won't pass through the more flattering upfront figures this deal will generate.
If that’s the only reason, though, it’s a waste of taxpayer money. Barring some truly heroic assumptions from the first investors into this deal, the cost of borrowing the money cleanly and openly through the Gilts market will surely be lower than the cost of raising money through this trade, along with the subsidies required to make it fly.