The statistics have finally caught up with the anecdotal reports from millions of cardholders: credit card companies have been cutting back on credit limits like never before. According to FICO, formerly Fair Isaac Corp., about 58 million consumers saw their credit limits cut from April 2008 to April 2009, about one third of all cardholders.
The numbers bear out industry predictions that the credit card industry would be scaling back as much as $2 trillion in credit lines thru the middle of 2010. In a statement to Reuters, banking analyst Meredith Whitney at the end of 2008 predicted that credit card lines would decline as much as 45 percent from the end of 2008 to the middle of 2010.
Just as interesting as the sheer number of consumers who saw their credit limits cut was who were targeted. Cardholders with good credit, normally considered immune to adverse credit card changes, were targeted just as much as people with poor credit. For about 24 million out of the 33 million cardholders who had credit limits cut between October 2009 to April 2009, credit limits were scaled back without any of the typical “risk triggers,” such as late payments or high credit card balances. The remaining nine million of those facing reduced credit limits fit the more traditional profile with recent negative credit references prompting lenders to scale back card limits.
The credit limit cuts escalated to affect an estimated 33 million consumers between October 2008 and April 2009, up from about 25 million card holders between April 2008 and October 2008. The size of cuts also increased. Credit limit cuts averaged $5,100 from October 2008 to April 2009, which was more than double the reduction observed six months earlier.
One of the big concerns about bank’s large-scale reduction of revolving credit lines has been whether the cuts could lower the credit score of affected cardholders. According to a new study by FICO, however, lower credit lines may not necessarily lead to lower credit scores. The study found that cardholders who carry a high balance on their cards indeed are much more vulnerable to credit limit cuts, while people with a high credit score and low credit balances are less likely to be affected and may even see their score increase.
The study underscores the importance of the credit utilization ratio component of the credit score. This ratio takes into account how much of the available credit is used, and it accounts for 30% of credit scores.
The credit utilization ratio is given the second-largest weight in FICO scores, because it is highly predictive of how likely a person is to pay off their credit card debt. According to FICO, cardholders who use 70 percent or more of their available credit limit have been found to be 20 to 50 times more likely to walk away from their credit card debt within the next two years, compared to cardholders who use 10 percent or less of their available credit.
