1. The money is in the form of a loan, which by virtue of our fractional reserve system, is created upon signing a promissory note. This is the basic form of money creation in the United States. Repaying the loan extinguishes the principal balance and "destroys" that money. However, interest owed remains and the debtor must "seek" out that money in the economy (which, consequently for many people, is in the form of another debt from some other person or company).
2. An economy where a major portion of debtors are unable to discharge their loans (due to the laws presuming student loans as ineligible for discharge), debtors will fall into a cycle of inability to pay debt, inability to qualify for a home, apartment or a vehicle, and potential inability to qualify for a job (credit check) and become increasingly dependent on government programs to stay afloat. This can put a strain on government resources beyond what a simple bankruptcy would do, which is the forced cancellation (discharge) of a debt. Basically, the cost of a bankruptcy (to the economy) is smaller than the cost of an otherwise capable judgment-debtor on welfare/Medicade/SNAP/others.
3. Private student loans, which are effectively no different than unsecured debt, should be presumed dischargeable in bankruptcy. Federal student loans are actually structured quite nicely, except many debtors do not understand the complexities of the multiple forms of loans they carry (perkins, plus, university-managed, subsidized, unsubsidized, private) and rules for one loan type do not necessarily apply to the other.
Colleges would actually benefit from student loan reform, since they could better educate students and parents on standardized loan packages, rather than the large array of loan options available now.