FYI -- http://www.economist.com/world/britain/displaystory.cfm?story_id=13528529 Deflation and student loans Payback time? Apr 23rd 2009 Students hope for a bonus as Britain pitches into deflation IN 1960, when Britain last experienced deflation, university students would have been puzzled by the idea of borrowing from the government to pay for their studies. These days, as inflation sinks below zero once moreÂprices fell by 0.4% in the year to March, according to the retail-prices index (RPI), an official measure of broad inflation published on April 21stÂgraduating with hefty debts is the norm. Debtors might normally dread deflation, which increases the real value of their loans. But students now hope that falling prices will provide them with a windfall. Interest on student loans is pegged to inflation, as measured by the RPI, in order to maintain the real value of the debt over its term. The rate is set each year in March, which means that the interest rate prevailing in the academic year beginning in September will, in theory, be -0.4%Âa transfer from state to student. Debtors are giddy at the prospect that taxpayers will be forced to pay off part of their loans for them. The government, which never foresaw such an eventuality, seems unsure. Last month it said a decision would be made if and when inflation went negative; it now says it need not decide until September. Student loans are an unusual case. Dozens of state benefits are pegged to the RPI, but officials have promised that handouts such as jobseekerÂs allowance and housing benefit will at worst be frozen. The state pension, also linked to the RPI, must go up by at least 2.5%, following a promise made by ministers a few years ago when inflation fell and pensioners got shirty. The National Union of Students is adamant that loans taken out before 1998, at least, are eligible for negative interest payments. On more recent loans, it concedes that the government has more room for manoeuvre, thanks to a change to the law which says that interest rates must simply be Âno higher than those which the secretary of state is satisfied are required to maintain the value in real terms of the outstanding amountsÂ. In fact, even the pre-1998 borrowers may face an uphill struggle to get any money back. Unless a Âright of set-off is explicitly included in the contract, interest payment is a one-way street from the borrower to the government, according to Lucy Newcomb, a partner at Addleshaw Goddard, a law firm. ÂFor the government, the worst-case scenario is that no interest is payable, she reckons. In the long run, it may be no bad thing for students if they miss out on this particular fillip. The loans are already extremely soft: Nick Barr at the London School of Economics points out that almost a third of the governmentÂs costs are never recovered, because the interest it charges students is less than what it has to pay to borrow the money itself. Many beneficiaries are well-off students who borrow the maximum and pop it in a savings account to earn interest. If they were actually to receive rather than pay interest on their debt, calls to toughen up the system in general would probably get a more receptive hearing.