Yesterday I noted that there may be an impending crisis for state sponsored 529 prepaid tuition savings plans - those programs that guarantee that they'll cover state school tuition in the future, whatever the rate of inflation. The problem is that these funds can only cover their obligations if they can invest the money profitably somewhere. Right now, with markets plunging, it seems likely that many of these funds are running on fumes. The Alabama PACT is in crisis, for example, and may not be able to meet its promises.
But after reading this story, I've realized that the funds may protect themselves by becoming powerful state political players. These funds, which are typically state entitites operating independently of the rest of the state's treasury operations, have a huge stake in keeping state university tuitions - and therefore, their obligations - down. And they're a lot more powerful than individual voters because they represent a large collective of future consumers of education (i.e., voters.) Not only that. The reputation of the plan organizers, and the state as a whole, depends on keeping these 529's solvent.
How might this play out? Where state college tuition levels may previously have been set by trustees, look for much closer legislative scrutiny of state school tuition increases. Legislators will be much more reticent to allow steep tuition increases - and thus anger constitutents - if they are actually voting on the issue. But if legislators hold the line on tuition, this could have multiple implications. It could mean that state schools will have to tighten their belts even more during these rough times. And it could result in soaring non-resident tuition levels.
But it could also mean that these state prepaid plans will become decreasingly attractive to parents who expect their kids to go to private colleges. As long as state tuition inflation is comparable to - and in some cases, higher than - private tuition inflation, parents can comfortably use a prepaid plan no matter where they expect their kids to matriculate. But if state tuition holds steady - because the 529 plans lobby to keep them that way - while private school tuitions rise, the prepaid 529 looks much less attractive to the private school crowd. And this might push some investors out of state prepaid plans. That could have a ripple effect: if contributions decrease, the prepaids may have trouble meeting present obligations. (I'm just guessing that these plans work on a Madoff ponzi scheme where current obligations are met with the contributions of future claimants.)
Some might argue that this is precisely why state government shouldn't be in the banking business. Or maybe it's just an example of perfect democracy: voter/stakeholders finally getting the clout they deserve.
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