The Problems with Credit Card Reform

May 20, 2009 by  
Filed under Debt and Credit

I’ve been in some debates with other personal finance bloggers about the merits of the bill that the Senate passed yesterday. This is the bill that “regulates” the credit card industry. In this case, “regulates” means that the federal government is now setting some key terms of the agreement between the bank and the cardholder. I don’t like it. Here are my issues:

1. The government is on a crazed path towards taking over every aspect of our financial life. Part of  the plan is taxing away much of our spending power. The other part – as reflected in the current legislation- is an attempt at protecting consumers from exercising their own stupid judgment.

I don’t think it will be too long before an entire new federal agency is created to regulate consumer financial products of all kinds. (I think it will be called the “Federal We Will Take Care of Your Money Because You Won’t Agency.” ) That will add cost for everyone (except, of course, the lawyers). It will also allow consumers to blissfully resume their borrow and spend ways, assuming that whatever problems they cause, the government will fix them and/or tax the rest of us to make up the difference.

2. For the most part, the new credit card rules are intended to benefit cardholders who carry balances and therefore incur interest charges, late fees, and over-limit fees. No one should carry a balance on their credit card. If you do, you are overspending. It’s that simple. If you don’t carry a balance, you don’t worry about late fees and you don’t care what the interest rate is. Stated another way, the new credit card rules are intended to benefit people who actually shouldn’t even be using credit cards.

3. Because the new rules place limits on how much the irresponsible cardholders can be forced to pay for their carelessness and cluelessness, those people who use cards responsibly (by not carrying balances) are being punished. The banks will be forced to spread the risk around to all cardholders. This means fewer no-fee cards and diminished paybacks on rewards cards. The government’s actions are interfering with the service provider’s ability to price risk into individual accounts. Whenever that happens, we all pay more.

Imagine having to pay more for your health insurance or life insurance if insurance companies are not allowed to charge higher premiums for smokers or obese people. It’s the same principle. 

4. The one regulatory benefit that could have come out of this bill is a provision that allows merchants to grant discounts to those who pay with cash. Right now, the agreements between merchants and VISA, etc. actually prohibit this practice. There was an attempt to include this in the bill but it was beaten back by the card industry lobbyists.

The card companies want to discourage the use of cash so they use merchant agreements to interfere with freedom in retail pricing. If the government really wanted to benefit its consumers, it would have smashed that with a sledgehammer. Instead, the government ignored it. This means that cash buyers will continue to pay higher prices to compensate for the sins of the card addicts. It also means that the government is being complicit in encouraging the continued use and abuse of consumer credit.

The credit card and credit score industries are now more than ever dictating your financial lives. The government is their number one cheerleader, as long as it gets a piece of the control action. Which, of course, it is now doing.

Some pundits think that one consequence of this new legislation will be that it will be harder for some consumers to even obtain credit cards. Oh really? How long do you think the geniuses in Washington will put up with that? There will cries of “fairness” and “economic justice.”  Everyone deserves a credit card, don’t they? It’s a sign of financial intelligence and maturity, just like that McMansion, big mortgage, and $500 car payments.

Mr. ToughMoneyLove could be wrong about all of this but I don’t think so. Maybe you will tell me otherwise. Bring it.

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15 Responses to “The Problems with Credit Card Reform”
  1. SJ says:

    I agree with 2 more or less completely… i think that are argument is often times missed!

    #4 would really be nice. The extra transaction costs make me sad.

  2. RC Brooks says:

    What will fan the flames of credit availability “fairness” is the rapidly falling wages and skyrocketing utilities, healthcare and food costs.

    Instead of allowing people demanding that prices be brought within the means of the average person, they instead want to make credit available to “make” these exorbitant costs “within reach” effectively enslaving people without their knowledge.

    I recently was recommended to have an MRI done. Even after my rather pricey insurance, it was well over a thousand dollars. Beans to many, but on my budget its rather high for what amounted to an hour’s worth of work from three people. They wanted me to finance the cost, but I refused and chose to pay it off over a few months.

    I wonder how long it will be until we will be required to finance medical procedures, with “fairness” leading the way.

    With regards to interest rates however, I do feel that this country should show some ethics in its business dealings. Yes, people need to be responsible, but it saddens me when we are known for interest rates that in most countries are considered loan shark territory.

    Should we regulate? I would like to not go that route. Instead I would like the government to pursue the “credit bureaus” for racketeering, as that is what is being perpetrated (they don’t even seem to hide the fact). It would return a lot of power back to local financial institutions and enable business models that can more ably flex with local ebbs and flows.

  3. No Debt Plan says:

    The extra transaction costs don’t bother me. From a comment I got from one business owner on my blog, he said that credit card costs are 0.7% of his overhead.

    That’s nothing.

    He also said that there is a great amount of risk in using cash — employees stealing it, hard to account for, etc. Same thing with checks — they can bounce, take long to clear, etc.

    Credit card companies pay the merchant fairly quickly, as far as I know, and you’re pretty much guaranteed to get the money as a company. (Again, this was all from his comment.)

    I think regulating the industry away from abusive practices is a good thing, but you’re right that they are seeping into all aspects of our life. If people can’t learn that it isn’t the CREDIT CARD… it is the SPENDER… that is the problem then we’re sunk already.

  4. Snowy Heron says:

    I am no big fan of government regulation, but I am for this credit card legislation. Yes, it will make credit cards harder to get, which I believe will be a good thing. Yes, there will be fewer perks/rewards, but I don’t think most people realized that there is no such thing as a free lunch, those “rewards” had to come from somewhere and that somewhere was probably your own pocket!

    The banks have just gotten a little crazy with the credit cards – it was like they were addicts looking for their next fee fix. They gave up underwriting their customers years ago and now they will have to get back to doing that. Figuring out how much to lend someone based on their income is a good thing. Saying that the consumer should be the judge of how much credit they have is ok if the consumer knows what they are doing, but honestly, most of them don’t. And giving credit cards to 18-21 year olds with no income is a recipe for financial havoc.

    If anything, I don’t think this legislation goes quite far enough. They need to reinstate usury laws, limiting consumer interest rates to no more than 30%. Right now there are payday lenders out there charging people 700-800% interest rates. Don’t think I am joking or uninformed about this. I had a family member get caught up in their lending schemes and I saw the APR on the forms. Payday lenders make the mafia look good. If someone’s only recourse is bankruptcy or payday lenders, go with bankruptcy. It will be the cheaper option!

  5. RC Brooks says:

    I agree with you on the usury laws. There was a reason they were in place. What’s worse is how high 30% is when you think about it. Interest and fees have been so high that giving someone two dollars out of every ten seems like a good deal.

    Makes me shake my head, but also smile when I look at my old used car.

  6. TMN says:

    TML, you’re probably right… some companies will try to spread the risk around to all borrowers. But I strongly suspect that at least one card company will realize that they can attract a ton of people with strong credit by reigning in their risky borrowers instead. My money is on AmEx cutting off their higher-risk cardholders and maintaining their rewards programs with no change. Let every VISA card in the country try to charge monthly fees and remove bonus points. All that will happen is the AmEx Blue will become even more the status symbol of choice among young professionals with extra money to toss around.

  7. TMN – I hope you are right but I note that AmEx has already cut back on benefits paid under its best rewards card, Blue Cash. This does not bode well.

  8. FV says:

    Mr TML,

    I will have to disagree with you on #3. I have a (no fee) reward card and I have never carried a balance in the 14 years I have used credit cards. Sure, it is convenient to use a credit card but not enough that I could not cancel my card immediately if the reward program would be discontinued and/or an annual fee would be imposed. I could use cash or checks for my transactions just as well. A similar line of reasoning is likely common with a large segment of responsible (by your definition) cardholders who use the cards just for the rewards.

    If the credit card companies dare to imply that the responsible users would have to be punished as a result of legislation unfavorable to them then I would like to call their bluff. Do you really think they would not care if I, and others like me, would revert to cash? That would mean even less revenue for them do to the decrease in transaction fees they charge to the merchants. The credit card company bosses may be greedy but they are NOT idiots. Just my two cents…


  9. FV: It appears that the card companies are already spreading the risk. Two of the most popular rewards cards – Amex Blue Cash and Chase Freedom have already reduced their rewards payouts.

  10. Rick Beagle says:


    In the first part of this rant you bemoan the federal government’s involvement in our lives but end the same post demeaning their efforts as not doing enough?!

    Meddling is fine I suppose as long as they meddle with items that are demeaning and annoying to you, but to heck with the rest of the population – they are just a bunch of slackers.

    Ugh, the condescending arrogance in this post is a bit much, and you might want to tone that down a bit. Perhaps interject other opinions to provide support and balance out the article would help settle the tone a bit.

    Before you wonder what the heck I am talking about, imagine someone having to carry a balance to save their lives (emergency medical treatment). Do they deserve your comments, and do the credit card companies deserve to exploit them? In the words of the Daily Show, “be a person”.

    Rick Beagle

  11. Rick: There is a saying in my profession: Hard cases make bad law. Your example of the person using a credit card to finance a life saving medical treatment reminds me of that saying. If credit cards could be used (or were used) only for legitimate financial crises, then my attitude would be quite different – more of a “person” as you put it. But sadly, credit cards have been mostly used to support spending binges by people who lack self-control. They get in trouble and then the card companies invoke the rules of the cardholder agreement to raise interest rates, charge late fees etc. Now Congress steps in and says – we want you to leave these people alone. We don’t want them to experience the full pain of their bad spending behavior. We want you to spread the consequences and risk to all cardholders.

    Sorry Rick – I don’t think that is good policy. What Obama could have done is gone on national television, read the riot act to the cardholders who carry balances, give them a one-time relief from escalated interest rates or compounded late fees, and then left it alone. He won’t do that of course because it would cost him votes. People don’t like being told that they are behaving badly no matter how much truth is behind it.

  12. RC Brooks says:

    Unfortunately now, there are more “hard cases” than there used to be. Even before the collapse. The problem, in my opinion, stemmed from credit companies offering their wares and to be entirely honest two person incomes per family.

    It has grossly inflated cost of living, so much so that an average person can have a great deal of difficulty living. For many years I didn’t even have a home phone and only bought clothes when the ones I had were unsuitable for my job. And at that time I was still making more than many in my area.

    My situation has improved, but there are an increasing number who have had their situations degrade, many who have never had a well paying job. Truly we don’t need big screen TVs or brand new cars, but I know many that have neither and even though working full time, barely have enough to make it past rent, car maintenance, utilities, car insurance (which we have to have in Indiana) and basic food.

    We can ignore their plights, but to our own peril. To condemn the irresponsible to a life of poverty without the real chance of betterment is dangerous as well. With the weakening of bankruptcy there is very little chance for anyone to start anew, which lead to the eventual success of many individuals.

    To that end, I know many who never have used their credit cards before, having to use them just to get to work. Their option is to forfeit their jobs and quite literally live on the street. Perhaps it would call attention to the real issues, but at a high cost.

    If we should punish borrowers without considering the transgressions of the lender, should we also concede that victims of burglary received fair treatment as they must not have had enough security, nor perception to prevent it? While we may not sign a contract, life has shown us that if we do not secure our possessions, they will likely be taken. In truth at least two parties will always have responsibility in a every interaction.

    Those who are paying credit card fees and interest rates at trying to repay their debt. There are many who simply wouldn’t pay at all. Their penalty for borrowing money is that they are paying back more than what they owe. We should ensure however, that in a “lawful” society that those in power treat others respectfully.

  13. FV says:

    Mr TML: All that the credit card issuers are doing is some saber rattling. They would have loved it if the credit card holders started calling their Representatives in panic begging them to not pass the legislation. Well, tough luck…

    It does not matter that AMEX and Chase Freedom have reduced their rewards payouts. My point is that there would ALWAYS be other credit cards willing to attract AMEX’s and Chase’s discontented customers by offering better rewards. Just give it some time and you will see…

  14. kitty says:

    I pretty much agree with TML on all points.

    @RC Brooks – a little math for you about why the interest rates are high:
    Let’s say you lend $1000 to 10 people without any collateral, $100 to each for a year, and you are trying to figure out what interest you want to charge so that you’ll manage your risk and earn some profit. If one of your borrowers defaults, you need to collect $100 in interest from the other 9 just to offset losses. $100 in interest on $900 is a little over 11%. Now let’s say your customers are especially risky, and you worry that 2 people may default. Than you need to collect $200 in interest on remaining $800 just to offset the losses. This is 25% in interest. Now this would just offset your losses, no profit at all. Note, this assumes that you got this money for free i.e. that your cost is 0. But if you are making money on spread as banks do, you have to subtract the interest banks pay on deposits. You also need to factor in that banks don’t lend all deposited money, they need to put some money – normally around 10% – in reserve. I.e. the money they make from 90% they lend have to cover interest banks’ pay on deposits on all money, including money in reserve. Add to it expenses of paying salaries, renting or owning the building, etc. Plus I assumed equal distribution of money among all of your customers. But those with higher amount of debt is usually the riskier ones. Plus, you cannot just operate at cost, you need to have profits; otherwise, why would you do it in the first place. When you look at it this way, the interest doesn’t seem that high, does it?

    Currently the default rate is close or even a little over 10% and rising. This is average default rate meaning that it is less for some customers and more for others. Being able to charge more on riskier customers more allows better conditions for less riskier customers. You do have a point that higher rates may mean more defaults, so this is something that you – if you were a lender – would have to factor into your business model. But the blanket prohibition on certain things will interfere with your ability to adjust the rates to your level of risk.

    There is also the issue of lost jobs. People like to identify banks with their CEOs, but there are millions of people who are employed by these companies. When these companies experience losses or earn less money, the employees of these companies lose their jobs. Not high executives – regular employees, programmers, cashiers, financial consultants, managers.

    @Rick – I have tremendous sympathy for those with medical needs. My mother is has lung cancer, two of my friends had cancer in the family, I have an idea of the costs. But, the problem with this bill is that it would have an unintended consequence of higher interest rates upfront for all. So if right now a responsible person with good credit, low debt and legitimate medical need can take advantage of 0% offers and low initial rate, this would no longer be the case. The rates for everyone will be higher right away. So if anything, this bill will make it more difficult for people with legitimate need to obtain credit.

    @FV – about transaction fees. A lot of people don’t realize that not all companies make money off them. Discover and AmEx do, but banks issuing Visa and Master Card branded cards don’t – the merchant fees to to Visa and MC companies. With Visa and MC business model, merchant fees go to Visa and Master Card companies, whereas banks get their profit exclusively from lending. So banks’ don’t profit from merchant fees whereas Visa and MC couldn’t care less about interest rates, rewards, 0% offers, defaults or if you pay in full or not (except they like you to buy more stuff). So banks’ wouldn’t lose much sleep over those who pay in full not using their cards, we are a liability anyway; whereas Visa and MC will happily continue getting their merchant fees from debit cards (as long as they are used as credit).

  15. TML said: “credit cards have been mostly used to support spending binges by people who lack self-control.”

    Are you sure about this? A quick Google search reveals that half of all bankruptcies are due to medical bills. Surely these people turned to their credit cards and racked up loads of debt before declaring bankruptcy. Were they irresponsible? Or did they get caught up in a horrible system (lack of good health care + high interest rates once you start defaulting…).

    The “hard case” made be THE case.

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