Secret History of the Credit Card
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Paying With Plastic: How It Works in the Rest of the World By Niall McKay

Niall McKay is a correspondent at the Center for Investigative Reporting in San Francisco. His work has appeared in The Economist, The New York Times, and Wired News.

With nearly 1.3 billion credit cards in circulation at the end of 2003, U.S. credit card use is larger than in the rest of the world combined, according to David Robertson, publisher of industry newsletter the Nilson Report. Behind the U.S., the U.K. is the next largest market with 59 million credit cards, according to the Lafferty Group, a research firm in London.

Debit cards are more popular in Europe by a long mark: The French have 39 million debit cards and just 9 million credit cards; 82 million Germans hold 93 million debit cards, but just 20 million credit cards; and British citizens have 60 million debit cards. Usually combined with overdraft protection, debit cards provide a cheaper alternative but offer lower lines of credit. The Nationwide Building Society, a bank in the U.K., for example, charges 6.75 percent for a debit card overdraft loan, but 15.9 percent for a credit card loan. German banks are legally bound to offer every account holder an ongoing overdraft of three times the borrower's monthly salary, lessening the need for credit.

But despite widespread adoption of debit cards, credit cards are gaining in popularity worldwide. Here is a closer look at how credit cards are used in France, the U.K. and Asia.

» France

In their approach to consumer credit, as in many things, France and the United States are poles apart. France favors strict regulation of consumer data while the U.S. favors a more laissez-faire approach. The French, like most Europeans and Asians, carry far less credit card debt than their American counterparts. Government usury regulation, privacy legislation and a consumer preference for debit rather than credit cards have, until recently, made it more difficult to rack up debt.

In fact, there are no credit-reporting agencies in France. Instead, the Banque de France manages a list of those who default on their loans. Once the bill is paid, the name is removed from the list, and even if the bill is not paid, the debtors' names are removed after five years. Further, the list is industry-specific, so credit card companies only have access to names held in the banking and financial databases. This is in sharp contrast to the U.S., where both positive and negative data is collected, files are managed by private companies and available across industries, and defaulted payments stay on the report long after a bill is paid. [Read more about the U.S. credit reporting system.]

Critics say the lack of credit bureaus means a lack of market competition, because with a limited means to assess which potential customers are a viable risk, foreign credit companies are unlikely to enter the French market. But French analysts say their banks are doing just fine with less information. "French banks are able to manage the risk using their own databases and statistical models to assess credit risk," says Xavier Got, an analyst with Standard & Poors, in Paris.

In France, the Banque de France sets usury rates at one third above the average market rate. Currently, usury is set at somewhere around 20 percent so the country has no subprime market as they do in the U.S. The average French debit and/or credit card holder pays between 11 and 14 percent interest; while the average British cardholder pays between 6 and 15 percent.

» The United Kingdom

While France is unique, and some say, protectionist in its approach, together with Italy it is resisting the implementation of an E.U.-wide credit-scoring system modeled on America's. By contrast, the U.K. has embraced the U.S. system: It has a similar credit rating service and, as in the U.S., British credit card companies have been aggressively pursuing potential customers. However, British privacy laws make targeting difficult for these companies -- much to the amusement of the press. In 2003, for example, the Royal Bank of Scotland offered a British Shih-Tzu dog called Monty a gold card with a £10,000 ($18,540) limit and a year later, a Barclaycard street promoter signed up a man who was selling the homeless newspaper The Big Issue with a credit limit of £300.

Like in the U.S., the U.K. has no national usury laws or interest rate cap on credit cards, so a subprime credit card loan market has emerged. Recently, Provident Financial offered a card with a 64.9 percent APR, while the Bank of England base rate was just 4.75 percent. In 2003, the industry came under scrutiny when the chief executives of six of the major credit card issuers in England were summoned by Parliamentary Committee (often the first step to enacting legislation) and told that interest rates were "excessive" and "a considerable cause for concern." The committee said that while it was not government's role to dictate interest rates, the government should make sure that the credit card companies were offering customers competitive rates.

There is a great deal of opposition to interest rate limits. A recent report conducted by the U.K. Department of Trade and Industry recommended that interest rate caps that had been abolished in 1974 should not, as many have suggested, be reintroduced, because it would discourage competition. There's another argument: "If you impose interest rate caps the problem is that low-income borrowers will end up getting money from more unscrupulous sources such as private money lenders," says Nick Lord, National Head of Money Issues at the Citizens Advice Bureau (CAB), a non-profit consumer advocacy group based in London. The CAB has recommended that the government find other ways to help needy individuals rather than encourage them to take out high interest loans.

"We feel that there should be more sharing of both positive and negative information, which would prevent indebtedness because it would make credit companies lend responsibly," he argues.

Because of a number of suicides in the U.K. that were attributed in part to credit card debt, there are calls for companies to share total loan balance information with each other. "That should help stop a number of credit companies lending money to people who obviously can't possibly make the payments," says Lord.

The question is how to provide the lenders with enough information so that they can offer the cheapest loans to consumers who are the lowest risk without providing too much information that could be used by unscrupulous marketers.

For historical reasons, the Europeans are much more careful than U.S. consumers about who has use of their personal data. Consumers in the E.U. must "opt in" or explicitly give credit card companies permission to share their data with third parties, while U.S. privacy laws mean that Americans must "opt out."

Some Europeans eye the U.S. credit reporting system with envy. They argue that more information will enable them to gauge the risk involved in extending a loan, so that they can offer cheaper loans to low-risk borrowers and charge higher rates to those that pose greater risk based on their credit history.

Like the United States, the British credit scoring system gives lenders information enabling a more accurate calculation of risk. The outcome is that the British and American consumers have less privacy but cheaper loans than their French counterparts.

» Asia

Even Asians, long among the world's keenest savers, have caught the credit bug. In the late 1990s, officials in South Korea and China began encouraging credit card adoption, both to boost consumer spending and to make taxation easier -- credit card use leaves a good audit trail.

In South Korea, the country with the region's largest number of credit cards, the total amount of credit card spending leaped from $53 billion in 1998 to $519 billion in 2002, according to a 2004 report by the Korean Economic Institute in Washington. Total outstanding credit card debt increased from $11.0 billion at the end of 1999 to $57.5 billion at the end of the third quarter 2003, the report said.

Korean consumers, having just survived the late 1990s Asian financial crisis, had fully embraced the new opportunities that credit cards offered and the government's incentives to spend. But it may have been a case of too much, too soon. "The Korean Government overstepped the mark by offering tax deduction on payments made by credit card," says Tony Morbin, group managing editor of the Lafferty Group. "Last year borrowers defaulted on about $30 billion, roughly 25 percent of the market."

In preparation for the 2008 Beijing Olympics, China UnionPay (CUP), the state-run credit payments company, is building a massive credit card infrastructure. There are currently just 5 million credit cards in the People's Republic and 50 million people who, based upon Western credit scoring analysis, would be eligible for credit cards, Chinese officials say.

The Chinese government has recently laid the legal framework for the creation of a National Credit Bureau, which at the beginning will concentrate on collecting negative information on Chinese consumers, but later, like the major U.S. credit reporting agencies Equifax, Experian, and TransUnion will collect positive information too. The bureau will also have access to information such as tax records, utility payments and criminal records -- a level of data that civil liberties issues would prevent in most countries, Lafferty's Mobin says.

Indeed, once completed, the Chinese and American credit bureaus will have more in common with each other than with the French.

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posted nov. 23, 2004

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