Realist, not conformist analysis of the latest financial, business and political news

Student Loans – If All Government Were Run By Opportunity Cost We’d Have Very Much Less Of It

The Public Accounts Committee has castigated the government for the sell off of the student loan book. Apparently it could have received very much more if it had just waited. Well, maybe- but the PAC then goes on to show that it hasn’t understood the first thing about the cost of something nor opportunity costs. For they complain that the Treasury prices things at opportunity costs – which is exactly what the actual price of something is, the opportunity cost of it.

Come on now, be serious for a moment, there are only two things you need to know about economics.

1) Incentives matter.

2) Opportunity costs.

Grasp those two and truly grasp them and you’ll be doing better than 90% of actual economists and 99% of politicians. Which is a bit of a pity if we’ve got a committee of politicians attempting to pontificate upon economic decisions and they don’t grasp opportunity costs.

The taxpayer was ripped off by the sale of the student loan book, a Public Accounts Committee (PAC) report has found.

The Treasury’s rush to reduce debt is “short sighted” and risks public assets being sold off “at any price”, it added.

When the Government sold the student loan book in 2017, it had a face value of £3.5 billion but was sold for £1.7 billion, which is a return of only 48p in the £1.

According to the PAC, the deal was did not represent value for money for public sector finances in the long term. It pointed out that according to the Government’s own analysis, if it had held on to the loans it would have recouped the £1.7 billion sale price in just eight years.

Well, OK:

The Committee said that Treasury risks accepting too low a price for public assets due to their willingness to accept offers from investors if they exceed government’s theoretical “opportunity cost” of holding on to them.

No, there’s the error. Opportunity cost is the only important determinant of costs we’ve got. And thus of prices.

To be a little simplistic, an opportunity cost is what we can’t do because we’re doing this thing. Resources are, after all, scarce. Thus if we use something to do one thing then we can’t be using that same thing to do another. So, obviously enough, a cost of doing this one thing is not being able to do that other.

The true cost of doing something is what can’t we do because this? It’s also the only important cost that we should consider in decision making. So, if we’ve lent the money to students then we can’t be using that same money to be building HS2. If we want to build HS2 we’ve got to get the money back off the students, or sell that loan book to someone for money, so we can build HS2.

Do note that if we did measure everything, properly, by opportunity cost then we’d be having very much less government than we do. HS2 for example doesn’t pass the cost benefit analysis, therefore not the opportunity cost one, therefore we shouldn’t be doing it.

Opportunity costs, they’re important. Which is why we do cost benefit analysis. The costs of doing this thing are such, the benefits are so. If the costs are higher than the benefits, don’t do it, it’s destroying value. If lower, then go ahead – maybe. And how are our opportunity costs encapsulated? By using market prices for the inputs. Because market prices already include the value of those resources in their alternative uses.

So, should the Treasury be using opportunity costs to calculate prices? Sure they should, what other rational basis is there? Something which we’d hope the Public Accounts Committee might realise for we’d be better ruled if they did.

They don’t and we’re not, sadly.

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