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Update A Fairer Credit Card? -- Priceless

October 21, 2009

Banks, Credit and The American Consumer
The Card Game - On air and online November 24, 2009 at 9:00pm (check local listings)
Some top authorities on the consumer lending industry accepted FRONTLINE's invitation to weigh in with commentary on the industry, its range of products, and the debate about a new regulatory framework. This blog is part of a FRONTLINE/New York Times joint project, The Card Game, comprising a series of reports by the Times and a documentary by FRONTLINE, which airs Nov. 24th. WATCH A PREVIEW »

--from Ryan Bubb and Alex Kaufman, doctoral candidates in economics at Harvard

Industry representatives would have you believe that the Credit Card Accountability, Responsibility and Disclosure Act enacted in May spells the end of the credit card as we know it. President Obama's proposal last week to create a Consumer Financial Protection Agency to enforce the law has increased the industry's concerns.

But the example of cards issued by credit unions puts the lie to these claims. Credit unions largely conform to the new rules already, while profitably maintaining the basic features that users know and love.

The credit card act is under fire for limiting a number of fees commonly used in credit card contracts, like the charge for going over the credit limit and the increased interest rate that applies once a borrower has missed a payment. These changes might look like a boon for the average card user, but industry advocates claim that fees on delinquent borrowers subsidize the perks for those who pay on time. Take away the lucrative fees, the argument goes, and credit card issuers will be forced to ax free plane rides, slash generous credit limits and impose hefty annual dues for all.

Some in the industry even say that profitability would require issuers to charge interest from the moment of purchase, thus eliminating the grace period of interest-free lending that borrowers have long enjoyed.

These fears are largely unfounded. We have performed a study that compared credit cards issued by investor-owned banks to those issued by customer-owned credit unions. We found that credit unions are less likely to charge the fees and penalties that the new act hopes to eliminate -- and when they do, they charge less than other issuers.

While virtually all banks and other for-profit issuers increase the interest rate if the borrower fails to make a minimum payment on time, most credit unions do not. Similarly, credit union fees for exceeding the credit limit are on average just half those of other issuers. But contrary to industry assertions, more responsible card users don't pay the price. Credit union cards actually offer lower annual fees and longer grace periods than regular cards.

Is the lending model used by credit unions feasible for banks and other issuers? Absolutely. Banks and credit unions compete for customers in the same market. The primary distinguishing characteristic of credit unions is that they answer to a different group of owners: profits that are not reinvested are paid to the union's shareholder-customers as a dividend, much as investor-owned banks reinvest or pay dividends to their shareholder-investors.

True, unlike typical banks, credit unions have the advantage of being exempt from corporate income taxes, thus some might argue that this gives them an edge. But this is a proportional tax on profits. In other words, if credit unions were not exempt from the tax, their model would still make profits, they would just retain less of them.

Credit union cards are a great test case for how regular cards will perform under the new law. The evidence so far suggests that the credit card act is likely to bring about moderate, and even positive, changes. Card issuers, after all, need to retain customers. Any bank that attempts to pad its bottom line by, say, levying large annual fees will likely see its customers flee to credit unions or to banks that emulate the credit union model.

To be sure, the new law will require some sacrifices. Our data indicate that rewards programs, for example, may become less generous or less common. But is this necessarily a bad thing? While you may be reluctant to sacrifice your airline miles, rewards programs are anything but free for the nation as a whole. Debt-laden and often low-income borrowers tend to pay high fees to subsidize the vacations of those who manage to pay on time.

Credit union cards demonstrate that punishing fees are not an essential ingredient of profitable lending. This should help assuage fears that the credit card act will bring disaster for credit cards. Rather, it should nudge them toward the gentler credit union model that many Americans already enjoy.

[This article was first published June 23, 2009 in The New York Times.]

7 Comments

COMMENTS

Here are some facts that I am facing in todays market as Credit card customer -
1. All my CC interest rates are being revised to Prime + X% even though I have above 800 credit score
2. I am not seeing a flexibility from CC companies in waiving off the annual charges - ranging from $40 - $100
3. The 'fine print' is getting FINER - more ways to stump ignorant customer
4. I am in dilemma between devil and deep see because my option of closing my CC ac will impact my credit score - means I have to PAY for maintaining my credit score
5. The benefits associated with CC - like travel insurance etc are pruned down with a factor of 50%

My suggestion that Govt should intervene in calculation of credit score and make it independent from credit card so people have an option of closing their 'Costly CC' and live within the money that they earn every paycheck.

Sing / October 25, 2009 12:43 PM

Since losing my employment, my main income comes from rental property, child support, and investments. I rent to my daughter and her husband and have been taken advantage of by her husband paying rent when he feels like it during the month and never all at once. Child support has been sporatic to say the least. Just like many other investors, I lost a major chunk of my future on stocks this past year. The banks are relentless in overdraft fees and maintenance fees, and misc. fees and have caused me so much stress in an already stressful situation. The part that really gets me is how they act so smug justifying these charges. Credit card companies have added so many different fees it's mindboggling to think they can get away with this.

Jane Kreis / October 28, 2009 2:33 PM

I watch my bank like a hawk. Just today I caught them red handed authorizing a payment that was $85 excess of the available funds. A same day immediate challenge to their act of authorizing withdrawal of funds that did not exist met with a smug denial of any wrong doing. These banks are out of control. I avoided the NSF by depositing more funds. But my point is when a PNC Check Card that states on the day one of its presentation "This is not a Credit Card" should not behave as a credit card. Clearly they are manipulating the rules because the managers lack any intelligence to bring real value to the market. I am writing my congressional representatives next

J Mellon / October 28, 2009 5:23 PM

WOW! The above entry presented new suggestion, at least from anything I've heard!! Yes, our credit score should be separated from credit issues, have different for them if feel need. Some people would prefer to not deal in cards at all and current system essentially punishes a cash/check person. Pre-credit card days, what was credit score based on? At least don't essentially NEED a card to establish, maintain good credit. I have a card I don't like the bank that bought them, but I've had so long, I'm reluctant to close bkz of these issues. But other than that, I would close. Anyt other cnsmr product, if you don't use, you can choose to no longer keep. And an open account is always a bit of a liability to theft...I a paying,responsible card consumer shouldn't be burdened with this type of choice.

FW / October 29, 2009 7:08 AM

As someone who has always monitored their credit closely and has a credit score of 800+. I was quite perturbed recently when my credit card company raised my interest rate from 6.8% to 9% for no apparant reason. I know 9% is nothing to cry over but I have worked long and hard, paid my balance off monthly, jumped through all the bankers hoops to earn my low interest rate. So when I got notice of the rate increase, I called the credit card co, canceled my account and was very happy to tell them why.
Well this month when checking my credit score I found that it had dropped 5 points. Looking over my report it was obvious that that drop was due entirely to me closing my account as there were no other changes to my credit.
Just as a matter of principle I find the credit card companys as well as our entire banking industry exceptionally distasteful these days. Where are the laws that use to protect us from loan sharking? What ever happened to ethics? Don't they teach that in university these days? Or has consumerisum and the all mighty dollar replaced it???

D Anderson

D Anderson / October 30, 2009 3:14 AM

In state regulated health insurance products once a person takes a contract for coverage the terms of that coverage cannot be changed during the year. Why not make a similar rule for the credit card companies? They can only change terms, fees, interest rates once a year and in fact, the banks cannot change similar fees etc on any bank accounts except on an agreed upon anniversary date. Maybe if they saw an exodus of clients when they enacted a foolish policy they would think about their changes beforehand.

But anyone expected a good law to come out of this congress has not looked at who is giving the campaign money to their congressman. Congress deliberately gave the banks a large time window so they could do what they want. Do yourself a favor, vote the incumbent out, that would be change you could believe in.

Jay / November 6, 2009 1:10 PM

@Ryan and @Alex

I am a consumer with first-hand experience with major bank credit card lending, after I inadvertently defaulted on credit card debt. I have been contacted by collection agencies. I have heard "every" argument made by bankers and consumer advocates. The most common argument I've heard by the banking industry is that, in essence, American consumers got themselves into their own mess by their financial mismanagement. If they would have just managed their money properly, they would not have the problems they do. I would guess that many consumer advocates and some consumers' blood would boil to hear such a comment! Additionally, some economists and sociologists may be quite concerned about the larger implications and longer term impacts to America and the American economy of this industry running unchecked (hence the push for the new laws). In my opinion, although I have my own gripes with the banking industry, in fairness to the bankers, I think they have a good point. Perhaps we should stop wasting time creating new laws and invest that time teaching Americans about money. I agree with bankers, if we focus on consumers, I believe we will solve the problem.

Anonymous / November 23, 2009 1:26 PM
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