Update on the Credit Card Legislation: Paying in Full Does Not Make You a Free Rider; It Makes You Profitable

Last Thursday we wrote about two possible and essentially opposing ways that credit card companies could respond to the new legislation and affect users who always pay their monthly credit card bills in full and on time: increasing annual fees and limiting rewards programs or buffing up rewards programs to encourage those consumers to use their credit cards more. In our view, the former would be a pity while the latter would benefit both credit card companies and us.

I thus find Sunday’s article in Michelle Singletary’s personal finance column in The Washington Post highly disturbing. On credit card companies’ threats to raise annual fees in response to the new credit card legislation, Singletary preaches,

I know many of you feel entitled to use a credit card without any cost because you diligently and responsibly pay off the bill before the due date. But did you ever stop to think what that is?

You probably never considered that the credit pushers made your access to “free” money possible by gouging the less fortunate with hideous penalty fees and wicked double-digit interest rates. Effectively, the most financially vulnerable consumers have subsidized the low interest rates and rewards programs that the more financially secure enjoy. . . .

That is how capitalism works. And at times it’s a selfish system.

This statement ignores an important system credit cards use to make money: interchange fees. These fees are charged by credit card companies to stores whenever a customer pays for a purchase by card. The interchange fee is usually made up of a flat fee plus a certain percentage of the purchase value, which varies according to the card company, the type of card (personal or business), the rewards program associated with the card, as well as the store, and generally ranges from 1 to 4%. In 2007, credit card companies earned $48 billion in interchange fees.

Credit card companies seek out lower risk customers (i.e., those who are most likely to pay their credit card bills in full and on time) not because high risk customers make it possible to include them, but because they are responsible for a big chunk of credit card profits. We pay our bills on time (i.e., credit card companies feel comfortable that they will get all of their money back, and know exactly when to expect it), and by paying off our monthly balance, we have the potential to earn credit cards companies 1-4% of our credit limit in interchange fees every month. Interest payments do not earn interchange fees. With this in mind, I really don’t think credit card issuers would want to lose low risk customers by raising annual fees and slimming down rewards programs. And if they do, I certainly will not celebrate that move as a victory over capitalism – it will only mark the day in which I (and many others) go back to shopping around for better credit card deals, as the new legislation does not stop the competition between credit cards, and compete they will.

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One Response

  1. The credit card companies will always find a way to win over the common people. They have succeeded in the past, present and will continue to do so in the future.

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