Rowyn (rowyn) wrote,

On Credit Cards

This is dedicated to Postvixen.

To quote Postvixen: If everybody paid their cards off promptly and immediately, there would be no credit industry.

I have used credit cards for the bulk of my purchases for the last, oh, 15-20 years of my life. I love credit cards. I put everything I can on them. If I could charge my rent, I would.

I think I've paid interest on a credit card once, for about $.50. I don't think I've ever paid a late charge. I pay off my balances in full every month. I've never paid for an annual fee on a credit card, either.

So, banks must loathe me, right? They're not making those fat 20% interest rates off of me. They're not sucking me for fee income. In fact, worse still, Discover card (my favorite) has to actually pay me for my business! Those banks must be thinking, "We gotta find a way to drive her off! Customers like that will kill us!"

And they could easily drive me off. They could target me specifically, by charging me an annual fee that they only levied against customers who don't carry balances. They could cancel the grace period for repayment of purchases and charge interest as soon as I made a purchase. (They do that already on balance transfers and cash advances.) They could lower my credit limit to make charging purchases more difficult. Or, heck, they could just cancel my card and kick me to the curb. It's a free country. Banks are not obligated to provide me with a service they lose money on.

And yet they do none of these things. Instead, they court me. They offer me 0.00% interest rate "teasers", low annual rates, frequent flier miles, contributions to charity, higher credit limits, whatever it takes to get me to ACCEPT MY CARD K PLZ THX. My existing credit card companie, far from reviling me, bend over backwards to make me happy. On the occasions when I have made a payment late -- even if I had no good reason at all -- they have uniformly waived the late fees and finance charges associated with it. (With the sole exception of that $.50 noted aboce.) Is this because banks are such nice charitable institutions that they don't mind losing money on people like me? No. Because their marketing departments are staffed by morons? Ok, I'll admit that's almost plausible, but no, that's still not it.

Banks make money off of me because they charge merchants. The stores I buy from pay a percentage, or in some cases a flat fee, on every purchase I (or anyone else) makes. It comes right out of their bottom line and goes straight back to the bank. That's why not everyone takes credit cards. But merchants benefit from this exchange, too, because it reduces their risk and increases sales. Merchants who accept cash only carry a higher risk of theft, and turns away customers who don't happen to have the necessary cash on them at the moment. Checks place the whole risk of debt-collection upon the merchant. In most cases where a merchant is paid by a bad check, they never collect on it at all, or they sell it to a collection service at a fraction of its face value. You might as well have shoplifted the item you "bought" for all the difference it makes to them. (This is why few stores accept checks these days.) By contrast, credit card companies almost always pay the merchant, except in the very rare case where a consumer contests a charge. In essence, the merchant is paying the credit card a fee for the convenience of passing debt-collection off onto them, and the ease of not needing to deal in cash.

That doesn't mean all businesses love credit cards as much as I do, any more than that all consumers do. But everyone involved -- consumer, merchant, bank -- gains certain benefits from the situation.

So, if banks can make a profit from me without charging me interest, why do they charge other people interest? And why so much interest? Why annual fees and $15-$35 late charges? Are they just taking advantage of stupid people who don't know any better?

Well, yes and no. The trouble with picking a target market of "stupid people who don't know any better" is that these people overlap heavily with "people who will not pay you back, no matter what." When a bank tries to take advantage of someone who doesn't realize that the $10 a month minimum doesn't even cover the interest on $1000 at 20% APR, they also run the risk that this person will not realize that their $600 salary won't cover a $500 mortgage payment, and a $300 car payment, much less that $10 minimum on the credit card.

Credit card debt is unsecured (with a few rare exceptions, usually from people with truly horrendous credit histories). When a person files for bankruptcy, the credit card agency gets, in most cases, nothing. The bank has already given out that $10,000 in charges you racked up, and after you file for bankruptcy, that money is just gone. They have no way to recover it.

This is the most extreme case, naturally. But bad credit risks are expensive to the bank in other ways, too. Take the person who is going to pay back his debt -- someday -- but doesn't make his payments on time. He runs, oh, thirty to ninety days late on every payment. In an effort to collect on this debt, the bank will send out extra late notices, warning letters, make phone calls, etc., all to ensure that this guy doesn't try to dodge the agreement he signed up for. All of this costs the bank money -- real money. In addition to that, there's the matter of auditors, who study the files of bad credits closely. Accounting practices insist that banks carry "loan loss reserves" to hedge against the inevitable defaults of poor credit risks -- the more "slow pays" you have, the more you need to carry in reserve against the day they file for bankruptcy, or just plain disappear. No, not all "slow pays" do this. But the bank has an obligation to their depositors and stockholders to analyze the risks they are taking, and "slow pays" are, statistically, a big risk.

In response to these risks, banks have a few choices:

a) They can refuse to lend money to poor credit risks.
b) They can lend money to poor credit risks, and charge them higher fees/interest rates to offest the associated risks
c) They can lend money to poor credit risks, and charge everyone -- with good or bad credit -- higher rates to offset the associated risks of the bad.
d) They can give money away out of the goodness of their collective heart.

OK, d) is only in there for laughs. In fact, banks in the USA cannot do (d) -- not in quantity. The feds would shut the bank down for their irresponsible handling of depositor funds. Banks have a legal obligation to their depositors -- people like you and me with savings and checking accounts. When they throw "their" money away on bad risks, it's really your money they're throwing away.

C) doesn't work, either, because good credit risks will do business with the banks who follow (a) and accordingly can afford to have lower rates for their customers. In a free market, it's pretty much (a) or (b).

Personally, I do not blame banks for taking either of those two options. Perhaps it's cruel to offer a woman living on minimum wage the opportunity to buy a big-screen TV she does not need and cannot afford. Is it also cruel to offer a struggling college student the means of buying the books required for his classes? Is it cruel to let an unemployed man charge his grocery bill?

Would it be kinder to have a central bureaucracy that analyzed each person's individual desires, wants, and needs, and made their credit decisions based on that?

Maybe you think so. For me, I value my privacy and my own right to make my own decisions, and do whatever I think is right for me. And I'm glad that there are banks around who feel the same way. I dread the day that they disappear. Fewer options make all of us poorer.
Tags: economics

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