2014/07 : Choosing the type of income-contingent loan: risk-sharing versus risk-pooling
This paper analyses the choice between risk-sharing and risk-pooling income-contingent loans for higher education of risk-averse individuals who differ in their ability to benefit from education and inherited wealth. The paper identifies the possible outcomes of a majority vote between the two income-contingent schemes and provides several examples where the risk-pooling income-contingent loan is preferred. The paper then discusses the implications on participation and voting outcomes if successful graduates are mobile and provides examples where the riskpooling income- contingent loan remains being preferred. Risk-pooling schemes can however be prone to adverse selection problems, particularly if students are mobile. The paper explores the implications of allowing students to opt out of the riskpooling income-contingent loan for a pure loan. It shows that risk-pooling income-contingent loans can be sustained even when some students opt out.