Editorial Policy

Do Rewards Credit Cards Make You Spend More?

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By Eva Norlyk Smith, Ph.D.
January 19, 2011

Rewards credit cards are among the most popular credit cards, and for good reason. Over the course of a year, rewards earnings on cards that enable cardholders to earn one percent rebate or more on all their expenditures can turn into significant change.

However, according to a new study from economists at the Federal Reserve Bank of Chicago, enrolling in a credit card rewards program may also increase spending. In some cases, this may be simply because cardholders shift more of their spending to the rewards card. Still, according to the study, some consumers end up spending more and carrying increasing balances on their rewards cards.

The Federal Reserve Bank study focused on the spending habits of consumers who enrolled in a cash-back rewards program that offered 1 percent cash back on purchases. The research was based on 12,000 credit card accounts at a financial institution over a two-year period, which ended June 2002.

The researchers found that after enrolling in the cash-back program, cardholders on average increased their spending by more than $68 per month for the first three months and by $76 for the first nine months.

It wasn’t just spending that increased: the average debt carried on the card increased by an average of $115 per month during the first three months of the program, and $197 a month during the first nine months. However, a significant part of that increase derived from the fact that cardholders shifted spending and balances from other credit cards to the cash-back credit card. Still, the data suggested that across all cards, the total balance went up by an average of $40 the first three months and $66 the first nine months of the study.

Further, the impact of the cash-back program differed for different types of credit card users. There are two main types of cardholders: those who use their card as a payment instrument and pay their balance off in full at the end of the month, and those who use credit cards to make purchases they can pay off over the longer term. Cardholders who habitually paid their card balance off in full tended to scale up spending more on their card after enrolling in the cash back program — for the first three months spending went up by $138 per month compared to only $47 a month for those regularly carrying balances.

The cash-back program, perhaps not surprisingly, had the largest effect among cardholders that had not used their credit card in the three months prior to enrolling in the rewards program. This group hiked spending the most, with an average increase of $220 per month during the first three months, and an average of $180 the first nine months of the program. The credit card balances of this group also went up the most, in part because these cardholders appeared to substitute spending and debt accumulation from other cards.

In short, while the increased spending for some derived from a shift of payments from other cards, for others, the rewards program appeared to offer an incentive to spend more and perhaps, accumulate greater credit card debt. Ironically so, since the interest charges on rewards credit cards generally more than outweigh the benefits of rewards earnings.

The consumers enrolled in the one percent cash back program on average earned a $25 cash back reward. Given the increase in card usage and credit card balances carried forward, this illustrates that rewards credit cards — while seemingly a good deal for consumers — are an even better deal for credit card issuers.

Card issuers are well aware of this, with rewards credit cards increasingly taking the lead in credit card offers. According to a recent report from Mintel Compermedia, of the 1.2 billion credit card offers sent out in the third quarter of 2010, 8 out of 10 were for rewards credit cards.