Credit Card Industry Aims to Profit From Sterling Payers/Notes From Another Credit Card Crisis

Credit Card Industry Aims to Profit From Sterling Payers
By ANDREW MARTIN
Copyright by The New York Times
Published: May 18, 2009
http://www.nytimes.com/2009/05/19/business/19credit.html?_r=1&th&emc=th


Credit cards have long been a very good deal for people who pay their bills on time and in full. Even as card companies imposed punitive fees and penalties on those late with their payments, the best customers racked up cash-back rewards, frequent-flier miles and other perks in recent years.

Now Congress is moving to limit the penalties on riskier borrowers, who have become a prime source of billions of dollars in fee revenue for the industry. And to make up for lost income, the card companies are going after those people with sterling credit.

Banks are expected to look at reviving annual fees, curtailing cash-back and other rewards programs and charging interest immediately on a purchase instead of allowing a grace period of weeks, according to bank officials and trade groups.

“It will be a different business,” said Edward L. Yingling, the chief executive of the American Bankers Association, which has been lobbying Congress for more lenient legislation on behalf of the nation’s biggest banks. “Those that manage their credit well will in some degree subsidize those that have credit problems.”

As they thin their ranks of risky cardholders to deal with an economic downturn, major banks including American Express, Citigroup, Bank of America and a long list of others have already begun to raise interest rates, and some have set their sights on consumers who pay their bills on time. The legislation scheduled for a Senate vote on Tuesday does not cap interest rates, so banks can continue to lift them, albeit at a slower pace and with greater disclosure.

“There will be one-size-fits-all pricing, and as a result, you’ll see the industry will be more egalitarian in terms of its revenue base,” said David Robertson, publisher of the Nilson Report, which tracks the credit card business.

People who routinely pay off their credit card balances have been enjoying the equivalent of a free ride, he said, because many have not had to pay an annual fee even as they collect points for air travel and other perks.

“Despite all the terrible things that have been said, you’re making out like a bandit,” he said. “That’s a third of credit card customers, 50 million people who have gotten a great deal.”

Robert Hammer, an industry consultant, said the legislation might have the broad effect of encouraging card issuers to become ever more reliant on fees from marginal customers as well as creditworthy cardholders — “deadbeats” in industry parlance, because they generate scant fee revenue.

“They aren’t charities. They have shareholders to report to,” he said, referring to banks and credit card companies. “Whatever is left in the model to work from, they will start to maneuver.”

Banks used to give credit cards only to the best consumers and charge them a flat interest rate of about 20 percent and an annual fee. But with the relaxing of usury laws in some states, and the ready availability of credit scores in the late 1980s, banks began offering cards with a variety of different interest rates and fees, tying the pricing to the credit risk of the cardholder.

That helped push interest rates down for many consumers, but they soared for riskier cardholders, who became a significant source of revenue for the industry. The recent economic downturn challenged that formula, and banks started dumping the riskiest customers and lowering their credit limits in earnest as the recession accelerated. Now, consumers who pay their bills off every month are issuing a rising chorus of complaints about shortened grace periods, new hidden fees and higher interest rates.

The industry says that the proposals will force banks to issue fewer credit cards at greater cost to the current cardholders.

Citigroup and Capital One referred comments to the A.B.A. Discover and American Express declined to comment. Bank of America intends to “provide credit to the largest number of creditworthy customers possible, while also remaining prudent in our lending practices,” said Betty Riess, a spokeswoman. Together with JPMorgan Chase, which has said the changes will force it to limit credit availability and raise fees, these banks account for 80 percent of the credit card industry.

Banks are not required to publicly reveal how much money they make from penalty interest rates and fees, though government officials and industry consultants estimate they constitute a growing portion of revenue.

For instance, Mr. Hammer said the amount of money generated by penalty fees like late charges and exceeding credit limits had increased by about $1 billion annually in recent years, and should top $20 billion this year.

Regulations passed by the Federal Reserve in December to curb unexpected interest charges would cost issuers about $12 billion a year in lost fees and income, according to industry calculations. The legislation before Congress would build on the Fed rules and would further squeeze banks’ revenue when they are being hit with a high rate of credit card charge-offs. The government’s stress tests showed that the nation’s 19 biggest banks will take on $82 billion in credit card losses in the next two years.

A 2005 report by the Government Accountability Office estimated that 70 percent of card issuers’ revenue came from interest charges, and the portion from penalty rates appeared to be growing. The remainder came from fees on cardholders as well as retailers for processing transactions. Many retailers are angry at the high fees and plan to pass them on to shoppers once the Congressional legislation takes effect.

Consumer advocates say they have little sympathy for credit card issuers, arguing that they have made billions in recent years with unfair and sometimes deceptive practices.

“The business model will change because the business model doesn’t work for the public,” said Gail Hillebrand, a senior lawyer at Consumers Union.

“In order to do business under the new rules, they’ll actually have to tell you how much it’s going to cost,” she said.

With many consumers mired in debt and angry at what they consider gouging by credit card companies, the issue of credit card reform has broad populist appeal. Members of Congress and the Obama administration have seized on the discontent to push reforms that the industry succeeded in tamping down when the economy was flying high.

Austan Goolsbee, an economic adviser to President Obama, said that while the credit card industry had the right to make a reasonable profit as long as its contracts were in plain language and rule-breakers were held accountable, its current practices were akin to “a series of carjackings.”

“The card industry is giving the argument that if you didn’t want to be carjacked, why weren’t you locking your doors or taking a different road?” Mr. Goolsbee said.

Ron Lieber contributed reporting.









Notes From Another Credit Card Crisis
By SUKI KIM
Copyright by The New York Times
Published: May 17, 2009
http://www.nytimes.com/2009/05/18/opinion/18kim.html?th&emc=th


Seoul

AS President Obama stages a populist campaign against credit card companies’ predatory practices, the United States Senate is working on new regulations to protect card holders. Meanwhile, Americans’ credit card debt has risen to the point where it now tops $960 billion. And with the economy in a downswing, it’s hard to see how the debt can ever be paid back.

If it’s any consolation, South Koreans have been there, done that and come out alive — if just barely.

In 1999, after the Asian financial crisis, the South Korean government encouraged banks to issue credit cards to as many people as possible as a way to increase consumer spending (as well as to make it easier to collect taxes, which had been harder to monitor in a predominantly cash economy).

Hong Kwon-heui, a columnist for Dong-A Ilbo, a South Korean newspaper, recalled how, in the early 2000s, the streets of Seoul were littered with credit card vendors. Sitting in a Starbucks facing Sejong Avenue, he told me, “They were literally handing them out to college students, to the unemployed, to anyone who had time to fill out an application.” He said, “The country was force-feeding its people debts.”

South Koreans became hooked on plastic so dizzyingly fast that by 2003 they owned on average four credit cards each and their collective debts amounted to about $100 billion.

The cards had an additional allure as a status symbol, because previously in South Korea only the elite had them. “When I used credit cards, I somehow felt that others regarded me highly and that gave me confidence — and I forgot that I needed to pay it all back later,” said Kang Hee-yun, an office worker in her mid-40s, who eventually had to resort to “card kiting,” the trick of using one card to repay the debt on another.

The bill soon came due for many South Koreans. In 2003, a 34-year-old housewife harassed by creditors leapt to her death from her high-rise apartment after pushing out her three children. Families unraveled as their breadwinners lost their savings. A sudden surge in crime and prostitution led South Koreans to bemoan their “bankrupted society.” Finally, after millions had defaulted on payments, the government stepped in to help bail out LG Card, then the country’s largest issuer.

“The excess was similar to what’s happening with the American housing market today,” recalled Song Ji-hoon, a Rolex-wearing lawyer in his mid-30s who worked on behalf of one of the credit card companies. “Koreans wanted fancy cars, bigger TVs — although there was no real money to buy them — much the way those Americans thought that they could own houses with nothing but loans. Of course, in both instances, banks got greedy extending credits and mortgages to people who couldn’t pay back.”

It’s true that South Korea’s economic path bears little resemblance to America’s. In the 1960s, the South Korean government had nationalized the banks and divided the country’s resources among a handful of companies, including Samsung, Hyundai and LG. These family-owned conglomerates, known as the chaebol, dominated the economy.

In the early 2000s, the credit card divisions of Samsung and LG, trailed by Hyundai, competed fiercely in the new market.

Even today, despite the efforts of previous presidential administrations to decrease the power of the chaebol, it is still not unusual for a South Korean to wake up in a Samsung-made bed in a Samsung-built apartment, eat Samsung-manufactured food and drive a Samsung car to the office of a Samsung-affiliated company. Back in the early 2000s, a Samsung credit card, or one issued by Hyundai or LG, would have been another such extension. The chaebol had become the face of Korea, both domestically and abroad, and when their credit card divisions faltered in 2003, the South Korean government had little choice but to step in and ease social unrest by forgiving individual debts. The move was criticized by some as a return to the old ways of keeping the chaebol afloat.

Still, the government’s bailout worked. Although unemployment and personal bankruptcy rates remained high for a while, the worst was soon over. The credit card companies instituted stricter rules for issuing cards, and consumer spending plummeted briefly.

The real hangover can be seen in a shift in buying habits. Before the mass use of credit cards, Koreans had been big savers. In a culture where family members are expected to help one another financially, they put money away for everything. They also joined private money-pooling groups called “gye,” which allocate money for everything from children’s school and weddings to the celebration of a parent’s 60th birthday. In 1998, the household savings rate was 25 percent. By 2007, it had fallen to 2.5 percent.

South Korea managed to weather the storm, albeit with no shortage of heartbreak. Today Seoul’s neon-lighted streets burst with credit-card friendly shops — but high household debt has depressed spending. Some habits are hard to break.

Finishing his cappuccino, Mr. Hong, the newspaper columnist, opened his wallet to show me his cards. Not as many as he once had. One came with free passes to cultural events, another offered discounted loans. The third, well he couldn’t recall which perks it offered — save for comfort.

Suki Kim is the author of “The Interpreter,” a novel.