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It’s a classical good news-bad news situation. The good news first: Americans are paying down their credit card debt at a record rate. According to the Federal Reserve, revolving consumer credit, a close approximation of credit card debt, decreased at an annualized rate of 11 percent in April 2009. Overall consumer credit, both revolving and non-revolving, dropped by 7.4 percent from March to April, resulting in a total $15.7 billion drop in nationwide credit debt.
Now for the bad news: Americans are defaulting on their credit card debt like never before. The default rate on credit cards climbed to above 10% in May of 2009 with Bank of America topping out the list with a whopping 12.5% in credit card defaults. These are defaults, mind you, not delinquencies, which are merely a measure of how many consumers are late with their payments. A 12.5% default rate means that Bank of America is likely to be forced to write off more than a tenth of the credit card debt on its books.
Americans carry almost $1 trillion in credit card debt, and analysts expect losses on credit card charge-offs to exceed $70 billion in 2009, according to Reuters. The increase in credit card losses mirrors the growing unemployment, which reached a 26-year high in May at 9.4 percent and is expected get over 10 percent by the end of 2009.
These numbers indicate that Americans are taking one of two tacks in dealing with the burden of credit card debt: they are either taking steps to pay it off or deciding to simply walk away from it. The good news-bad news situation illustrates what is likely to become a growing credit polarization in the U.S.
If the current trend continues, we might soon become a nation of credit haves and credit have-nots. Already, people with high FICO scores have barely been touched by the financial crisis—at least as far as their access to credit is concerned. They still enjoy the benefits of easy mortgage financing at historically low rates, and they are as courted by credit card companies as ever before.
People at the lower rungs of the credit score ladder, on the other hand, are faced with greater and greater difficulty getting approved for credit cards or any other type of loan. When they do get approved, they are saddled with high interest rates and onerous terms.
As credit card defaults increase, card issuers will tighten lending restrictions and reduce credit card limits even further, causing even more consumers to default. Unfortunately, this trend of squeezing marginal credit card users is likely to only exacerbate the problem by forcing at-risk users into default by tightening the terms of their current lines of credit and allowing them no way out. As much as card issuers may be trying to shore up risk, they might instead be shooting themselves in the foot.
For consumers, the writing is on the wall. If your credit score is over 750, you’re in demand, and you’ll have other options if your card issuer changes your terms in ways you don’t like. You’re still a sought-after customer, and it’s worth your while to call your credit card company to negotiate better terms. If they don’t agree, you can always take your business elsewhere.
If you have a low credit score, on the other hand, you’re at card issuers’ mercy. There are fewer and fewer options available to you, and if your credit card company changes your terms, there is little you can do about it. Your best move to avoid becoming a credit have-not is to do whatever you can to improve your credit score. That means following the basic rules for keeping good credit. In addition, stop borrowing on your credit cards and do whatever it takes to pay off your credit card debt as fast as you can.
