Savings and Consumption Responses to Student Loan Forbearance

Abstract

How do households adjust savings and consumption in response to liquidity from debt relief? I study this question using policy variation induced by federal student loan forbearance in the 2020 CARES Act and an individual-level panel of daily financial transactions for 315,000 borrowers. Borrowers manage liquidity from the payment pause non-optimally, choosing to prepay 0%-interest student debt instead of high-interest obligations. The same borrowers do not make the same mistakes in response to liquidity from direct stimulus payments, and instead correctly prioritize repaying high-interest debt. This behavior suggests a flypaper effect that causes borrowers to treat liquidity from debt relief as non-fungible with liquidity from other windfalls, leading to debt repayment mistakes. Consistent with the predictions of such an effect, borrowers display a marginal propensity to spend (MPX) out of forbearance liquidity that is around half the size of their MPX out of fiscal stimulus. These findings provide evidence against models where consumers treat financial resources as fungible when making debt repayment decisions, with implications for debt relief as a counter-cyclical fiscal policy tool and ongoing debates about the aggregate impacts of student debt forgiveness.

Keywords: forbearance, stimulus, student loans, household finance, consumer credit

JEL Classification: G50, G51, D14, D91, I22, H3, H81, E21