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President Obama sent shockwaves through the student loan industry last week when he called on Congress next year and use the savings to turn the Pell Grant program by financing it entirely through mandatory funding. The announcement sent the stock prices of the nation’s largest student loan providers .

But investors need not panic, just yet. The Obama administration is sure to have a major battle on its hands — and not just from the usual suspects. While the president’s plan is unlikely to receive many Republican votes (save that of Rep. Tom Petri of Wisconsin, who has been a long time supporter of Direct Lending), the administration’s real challenge is going to be keeping members of its own party in line.

As we have previously reported, the student loan industry has gone to great lengths over the last two years to woo key Democrats. Sallie Mae outlined this strategy in an it produced shortly after the Democrats took control of Congress in 2006. That document, which was obtained by Rep. George Miller (D-CA) and , laid out the student loan giant’s plans to target generous campaign contributions toward “Blue Dog and Financial Services Democrats,” as well as members of the Congressional Black and Hispanic Caucuses. in July 2007 found that Sallie Mae had lived up to its pledge — donating, through its political action committee, more than $100,000 to members of these three groups in the first six months after the election.

The lender’s efforts paid off at least with some of the groups. For example, in February 2008, Sallie Mae and other student loan firms looked to for help killing a measure in the House of Representatives that would have for financially distressed borrowers . The loan companies were not disappointed. Altogether, 30 of the 47 Blue Dog members, many of whom were also on the House Financial Services Committee, joined Republicans in opposing the measure, . At the same time, helped lead the charge for a massive government bailout of the student loan industry last spring — far beyond what was needed to ensure the widespread availability of federal student loans.

Meanwhile, the leaders of the Congressional Black and Hispanic Caucuses when they joined forces with USA Funds (which is closely aligned with Sallie Mae) and the Texas-based guarantor TG last summer to hostfor their role in “enhancing higher education access and success for minority students.” In , the leaders of these groups praised guarantors for “support[ing] programs that promote higher education preparedness, access and success for students who are members of ethnic minority groups.” They specifically praised these agencies for financing scholarships, early awareness programs, and “research to promote college access for minority students.”

Speaking at the event, , a USA Funds board member and a former top Democratic aide on the House Committee on Education and Labor, warned that if FFEL was abolished, guaranty agencies “will disappear” and take all the positive college access benefits with them.

The Power and Influence of Guaranty Agencies

For their part, , many of which double as nonprofit lenders, are because of the political hold they have over lawmakers’ home state constituencies. Many guarantors are intertwined with state governments. For example, at least until recently, 16 of the 20 members of the board of (PHEAA) are state legislators equally divided between Democrats and Republicans. Three of the remaining seats are held by appointees of the governor, who is currently a Democrat. Governors and state legislators obviously have a lot of pull with their Congressional delegations.

Guaranty agencies are also a powerful force because they serve as major employers in representatives’ districts. By keeping these agencies in business — protecting the federal subsidies they receive through the federal student loan program — elected officials can take credit back home. How many lawmakers, Democrat or Republican, want to be accused of killing jobs in their home state, particularly at such an economically precarious time?

Leaning on Colleges

The student loan industry will also try to persuade college and university leaders, who are close to their Congressional delegations, to lobby to save FFEL. As we have seen with , many colleges have strong relationships with student loan companies. Lenders like to defer to college officials to make their case because the schools are seen as being disinterested parties.

For the most part, the major national higher education associations are staying on the sidelines, . But one group, which has has expressed concern about Obama’s plan. In last week, the (NASFAA) pressed the Administration and Congress to “carefully consider all the implications related to eliminating the FFELP.” They especially warned that students and parents could be “negatively impacted by losing FFELP participant-provided services like college access programs, financial literacy education and loan delinquency and default prevention.”

In its press release, NASFAA expressed its concerns in a fairly muted tone. As the debate heats up in the coming months, we expect that the association’s concerns will grow louder. And, we’ll be hearing them from the group’s state and regional affiliates soon too.

A Pitched Battle

President Obama has offered that will substantially improve the federal financial aid programs. But that was the easy part. Now he’s got a long, hard fight ahead of him. We believe he can prevail, but to do so he will have to battle entrenched interests in his own party, who support the status quo. It’s not going to be pretty.

Ben Miller and Jason Delisle contributed to this report.