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New Federal Rules Target Deceptive Credit Card Practices

May 2, 2008 at 6:10 PM EST
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The Federal Reserve proposed new credit card regulations Friday in response to growing rancor over credit practices that are widely regarded as unfair and deceptive. Robin Farzad of BusinessWeek Magazine explains the details and possible effects.
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RAY SUAREZ: The proposal from the Federal Reserve and other regulators to end unfair and deceptive credit card practices comes as millions are struggling to keep up with their payments.

Among other things, the proposal would require companies to: provide adequate time to make payments, such as 21 days; prohibit excessive fees and unfair balance calculations; and prevent firms from increasing the annual interest rate on a borrower’s existing balance.

For more, we turn to Roben Farzad of BusinessWeek.

And, Roben, American consumers have run up an estimated $850 billion in balances. Why move to regulate what had been a lightly regulated industry up until now?

ROBEN FARZAD, Editor, BusinessWeek: Well, there’s really a double purpose here, Ray, one, in that regulators are really seeing a backlash from consumers. And lawmakers in Congress are being asked, where were you? Where were the regulators amid the subprime bust? So many people felt bamboozled and conned.

Fed to outlaw unanticipated changes

Roben Farzad
BusinessWeek Magazine
So if we put out a set of strong standards, we won't have to deal with some sort of electioneering later in the year that could really harm the industry.

ROBEN FARZAD: And so the Federal Reserve here and two other regulators are saying that we almost want to act preemptively, because there are more than a dozen bills in Congress that are even more draconian.

So if we put out a set of strong standards, we won't have to deal with some sort of electioneering later in the year that could really harm the industry.

And also, the banking industry, which is intimately familiar with the mortgage crisis -- and we're in the throes of a bona fide credit crisis now -- can see on its operational dashboard that a lot of its consumers are shifting balances onto credit cards.

That's where everybody is trying to game the system. So there's a double anticipation.

RAY SUAREZ: Give us an example of some of the proposed new rules that will affect people who have credit cards and carry balances.

ROBEN FARZAD: Well, so many people complained last year that they opened up a bill and there was a 30 percent interest rate in there. And certain lenders just willy-nilly last year and this year decided to shoot up rates.

Now you'd have to give due notice and there would have to be just cause for doing that, namely, the customer doesn't pay within 30 days or you don't give the customer any notice.

There's also the practice of staggering the allocation of interest payments, namely if you have a balance that rolls over, the credit card company definitely takes a slice of it and charges a lower interest rate, so it anesthetizes the consumer into thinking he's OK, but later on the credit card company rolls over the remainder of that balance onto a higher interest rate.

This provision that we're hearing about today would aim to unify the interest rate and give people transparency and a heads-up on it.

Industry defends its practices

Roben Farzad
BusinessWeek Magazine
And truth be told, if you take a banker, a bank executive out for drinks, he would tell you that this is a business of nickel-and-diming. The devil is in those details in the fine print.

RAY SUAREZ: What does the industry say in its own defense? Has it released a position on this new set of regulations?

ROBEN FARZAD: The industry is really up in arms and vows to dig in its heels, because they can come back and say, "Look, we are in this credit crisis. If you let the market reflexes do their own thing, look what happened to us in the mortgage bust. We took it on the chin. We have to go hat-in-hand to other countries now and raise money, because we learned a tough lesson."

Shareholders are really pressuring them to make money somewhere else, and they're able to do that to a larger extent in their credit card businesses. "So what do you want us to do, run a charitable, altruistic business, if we can't anticipate changes that customers are doing?"

And truth be told, if you take a banker, a bank executive out for drinks, he would tell you that this is a business of nickel-and-diming. The devil is in those details in the fine print.

And a lot of customers understand that, too, and they both game the system. But the banking industry would say, "Why don't you just leave it to us and leave it to the customers and not be such a paternalist regulator?"

RAY SUAREZ: When you look over the proposed set of new rules, it contains words like "unfair" and "reasonable" and "too high." And those are all in the eyes of the beholder, aren't they? Will there eventually be rules that see federal regulators saying, "This is the level that's too high and you can't charge more than this"?

ROBEN FARZAD: I mean, hold your breath for that, because I think that that's where it leaves the deliberative wiggle room. And expect the industry to fight back, and expect people in Congress to say it's not strong enough.

Let's not forget: This is a border-line recessionary election year. And people want to seem tough. Lawmakers who are accused of being soft on the banking industry, where subprime mortgages are concerned, want to overcompensate where subprime credit card lending is concerned.

Having said that, you may not have seen the toughest legislation come out of these federal regulators today, because they anticipate a lot of criticism from the House, from the Senate, where you need to be tough on the banks, and something even tougher might come out of this after the final deliberation.

End is near for sketchy banking

Roben Farzad
BusinessWeek Magazine
People would be able to opt out of that, you know, quote, unquote, "luxury," of having overdraft protection, which ends up blindsiding people when they see what it costs them after the fact.

RAY SUAREZ: Well, to get down to cases, here's an example that I think a lot of people will be familiar with. If you get a promotional rate from a card, or get a cash balance from a card account that has a very attractive rate of interest, eventually that interest rate may jump up higher.

Am I correct in assuming that this new set of rules, if adopted as written, would mean that that existing balance would not be able to be hiked up, it would stay at the proposed rate?

ROBEN FARZAD: Well, the existing balance could be hiked up if there is, again, just cause, if the customer is in arrears, if the customer has not been given -- you know, so much of this is subjective -- ample notice within a 30-day period.

And, two, you know, you talk about different businesses. An adjunct on the credit card business is the checking overdraft business. This is looked at as a convenience so you're not caught embarrassed when you pay someone with a check or use a check card.

But that leads to really usurious terms when this is compounded for the banking industry. And now people would be able to opt out of that, you know, quote, unquote, "luxury," of having overdraft protection, which ends up blindsiding people when they see what it costs them after the fact.

So the point is, it's not as automatic as it used to be.

Wiggle room prior to legislation

RAY SUAREZ: And quickly, Roben, before we go, what's the mechanics for the adoption of these rules? These don't just become rules on the day that they're proposed by the Office of Thrift Supervision do they?

ROBEN FARZAD: That's right. They don't. There's a 75-day public comment period. You're going to hear a lot from the banking industry. You're going to see a lot more from Capitol Hill. You're going to see the banking industry cry foul.

But expect the rules to be adopted before the end of the year in some shape or fashion.

RAY SUAREZ: Roben Farzad, BusinessWeek, thanks for joining us.

ROBEN FARZAD: Thank you, Ray.