Anya Kamenetz Generation Debt

In the past month, the media has been jam-packed with stories about a supposed student loan credit crunch. It's true that, as a result of the general turmoil in the credit market, some lenders have decided to stop offering both federal and private, unsubsidized student loans. The requirements have also been tightened for those borrowing private loans.

But the experts I've talked to say there's no crisis. In fact, there may be a silver lining to the credit upheaval: a saner market that steers more students and families toward safer, cheaper, smaller, federally guaranteed loans.

Talk of a student loan crunch or crisis boils down to this: According to the comprehensive financial aid Web site FinAid.org, 45 education lenders have limited, suspended operations, or quit participating altogether in the federally guaranteed Federal Family Education Loan Program (FFELP). The Pennsylvania Higher Education Assistance Agency (PHEAA), a state guarantor which provides loans to 140,000 students in Pennsylvania, is one of them.

"Our auctions failed," PHEAA's spokesperson Kevin New explains.

PHEAA, like many lenders, financed their new student loans through the auction of asset-backed securities -- bonds representing bundles of loans. Asset-backed securities are the same financial innovation that powered the mortgage market, and the uncertainty about the value of these securities is putting a freeze on the secondary market for student loans as well.

Yet New assured me, "We really don't see a lack of access to low-cost federal student loans in the coming academic year."

That's because there are still hundreds of lenders participating in the FFELP program; only about 10 percent have bowed out. The federal government has an obligation to guarantee access to federal student loans for students who qualify. And even if more lenders left the FFELP program, the Direct Loan program, which already handles a quarter of student loan volume, could step in to provide more loans directly from the Treasury. Direct loans are cheaper for taxpayers than the FFELP program because there are no lender subsidies, so that would be a win for everyone.

In fact, as a result of legislation passed last year, federal student loans for the coming academic year are actually set to get even cheaper. They are going from a 6.8 percent interest rate to 6 percent, and over the next five years they will hit a 3.4 percent interest rate. At the same time, there will be more repayment options and assistance for students.

The market for private, unsubsidized student loans is a different story. Just to be clear on the distinction, federal student loans are subsidized and guaranteed by the federal government. Whether you know them as FFELP, Stafford, Perkins, or PLUS loans, they have a fixed interest rate and are subject to annual limits. You must fill out the FAFSA form (Free Application for Federal Student Aid) to get a federal student loan.

Private or "alternative" student loans generally have much more expensive, variable interest rates and less favorable terms for borrowers. They are available in much larger amounts and have been spreading like wildfire -- until now.

"A number of private lenders are still in the market, but others have withdrawn, and almost all have or will be tightening their credit criteria," says Kevin Walker, cofounder of SimpleTuition.com. He says the likelihood that a private student loan will require a credit-worthy cosigner has risen from 75 percent to 95 percent, and the minimum credit score has risen from the 630-650 range up to 680-700.

Student advocates say this is actually a much-needed corrective in the market, especially for low-income students.

"The ability to resell loans encouraged lenders to make riskier loans," says Luke Swarthout of the U.S. PIRG's Higher Education Project. "Private lenders started making subprime loans to schools with high default rates and low graduation rates."

This is true especially of for-profit "career colleges" that aggressively market high-cost programs of dubious value to low-income students. Many private lenders are now pulling out of making loans to students at these types of schools altogether, which may lead more young people to choose higher-quality community college programs instead.

Reevaluate your need for student loans. If your education plan involves $50,000, $100,000, or more of debt, then maybe it's time to explore a cheaper, closer-to-home program and more sources of funding such as grants, scholarships, or a job.

Shop around for the best deal. FinAid.org is a good resource. So is SimpleTuition.com -- like a LendingTree.com for student loans, it has information on 32 lenders and 60 products.

Make doubly sure to exhaust federally guaranteed student loans before turning to private loans. This includes PLUS loans for parents and GradPLUS loans for graduate students.

"PLUS loans are available up to the cost of attendance for any family at an 8 percent interest rate," says Swarthout.

Have bad credit? Don't despair. If parents don't qualify for a PLUS loan because of mortgage or other problems, students are now eligible for an increase in Stafford loan borrowing for up to $46,000 a year. Stafford loan eligibility is based on the FAFSA form and does not rely on students' credit history.