Commentary: Will Credit Card Reform Be Dead on Arrival?

By Eva Norlyk Smith, Ph.D.

Like an emergency medical assistance team rushing a dying patient to the hospital before the last vital signs fade away, members of Congress are pushing to move up the deadline for the enactment of the key provisions of the new credit card law to December 1.

Will one of the key features of credit card reform turn out to be dead on arrival? It’s barely six months since Congress passed the new Credit CARD Act of 2009, and already, one of its key provisions aiming to curb interest rate increases has been rendered almost ineffective. In advance of the February 22, 2010 effective date of the new provision, card issuers have aggressively hiked interest rates across the board, and changed fixed rate credit cards to variable rate cards, which are less affected by the new provision.

Even if Congress succeeds in moving up the deadline, will it really make a difference? According to a report scheduled to be released end of October by Pew Charitable Trusts’ Safe Credit Cards Project, card issuers have already increased interest rates by an average of about 20 percent, and in many cases more than doubled interest rates on credit cards, taking aim even at cardholders who have never made a late payment.

So, has credit card reform lost its teeth, so to speak? Or worse, as some would argue, has government intervention done more harm than good by precipitating a pull-back of credit card terms that might otherwise not have been?

Well, not so fast. On the face of it, yes, card issuers are hiking interest rates and tightening credit terms in advance of the enactment of the new credit card provisions. However, let’s not forget that the credit pull-back began long before Congress passed the Credit CARD Act in May of this year.

Tightening credit card terms was triggered not by the anticipation of the new laws, but by the increasingly risky lending environment that followed in the wake of the near-economic collapse in the fall of 2008. The credit crisis, which began in the subprime mortgage market, but quickly spread to other types of credit, is the main reason card issuers had to take steps to restructure the risk profile of their credit card portfolios.

Credit card companies over the past decade have harvested huge profits by willy-nilly handing out unsecured credit lines with high interest to marginal consumers. However, issuing credit cards with starting credit limits of $10,000 or more, no questions asked, to consumers earning $40,000 or less is a risky proposition even in the best of times. When the economic recession hit, and the ranks of the unemployed began to swell, credit card defaults sky-rocketed. Card issuers had to take steps to curb losses by increasing revenues. And the easiest way to increase revenues in credit card world, of course, is to jack up interest rates.

Did the February 22, 2010 deadline set by Congress, which puts an end to card issuers’ ability to increase interest rates on existing balances, speed up the process of rate hikes? Undoubtedly. Would it have happened anyway? Most likely. With average credit card defaults topping 10 percent, card issuers must and will do anything they can to stem the tidal waves of losses.

Would the interest rate increases have happened as fast and as aggressively? Probably not. Chances are that rate increased would have been introduced much more cautiously, gradually and inconspicuously.

And so, even as the patient is being rushed to the emergency room, perhaps we should call the glass not half empty, but half full. The dramatic pace with which card issuers have hiked interest rates has awakened consumers, many of whom had grown dependent on easy credit, to the fact that credit cards are not their friend after all. As many have learned the hard way, credit cards can be toxic financial assets if not handled with the utmost care. Twice-wary consumers, newly awakened to the pitfalls of plastic, might well on their own accord begin to use credit cards with much greater caution. And, credit card reform or not, that wouldn’t be such a bad thing after all.

Published: November 4, 2009