Borrowing Trouble? Student Loans, the Cost of Borrowing, and Implications for the Effectiveness of Need-Based Grant Aid∗

We estimate the impact of need-based grant aid on City University of New York students ’ borrowing and educational attainment using regression discontinuity and regression kink designs. Pell Grant aid reduces borrowing: on average, an additional dollar of Pell Grant aid reduces federal loans by $0.43. Among borrowers, a dollar of Pell Grant aid crowds-out over $1.80 of loans. A simple model illustrates that our findings are consistent with students facing a fixed cost of incurring debt. The presence of such a fixed cost may lead to the unintended consequence of additional grant aid decreasing some students’ attainment. Empirically, we can rule out modest impacts of Pell Grant aid on effort, persistence, and attainment. Finally, we show that the fixed cost has economically meaningful impacts on behavior: we estimate that eliminating it would increase borrowing by over 250 percent. ∗We are grateful to the Office of Policy Research at the City University of New York for providing the data used in this study