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I was happily surprised to learn that Discover Card is offering a new product, the Motiva card, that actually rewards consumers for timely payment (offering an interest rebate after 6 months of timely bill payment). Perhaps unreckless lending is making new headway?
Alas, no. Sadly, one cannot qualify for the fiancial payment if one pays one’s balance in full each month. Only "loyal customers" who carry a balance get the reward.
Put another entry in the too-good-to-be-true column….
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Yesterday Professor Charles Fried, the elegant, eridite former Solicitor General of the US and former Supreme Court Massachusetts Supreme Court Justice, sparred with eminent philosopher and law professor Cass Sunstein and Harvard economist Ed Glasser in a faculty forum over "the Nanny State."
The discussion was lively and engaging, but Fried’s remark on credit cards stopped me in my tracks. Fried was aggressive in his defense of unregulated consumer choice. He poo-poo’d the idea of regulating much of anything in order to protect people from themselves, following the classical conservative position that people should be free to make as many choices as possible. But Fried made a point of mentioning why current credit card practices are morally reprehensible. I’m not a perfect reporter, but I tried to scribble down what he said:
"Credit card issuers make a profit from trying to get people to hurt themselves. That isn’t about consumer choice. That’s just reprehensible."
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Fellow Credit Slips blogger Elizabeth Warren appeared on National Public Radio’s Fresh Air with Terry Gross. I’m listening to the Internet stream as I write this, which is available here. The topic is credit card industry lending practices.
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Credit Slips readers may recall my earlier academic article on reckless lending in the University of Illinois Law Review, which is now available on SSRN here. So hopefully that will give me "street cred" as being no patsy of the consumer credit industry. But I flatter myself as an academic to be even-handed. And when I was visiting Florida recently (yes, my parents), I was happily surprised by an ad running on TV. It was for, basically, a payday lending service, but the ad was full of disclosures and cautions. It said that you shouldn’t take out a loan if you won’t be able to pay it back, or think you’ll have to roll it over shortly, etc. Sadly, I can’t remember the name of the lender (a bad ad then?). But the warnings were real, not a rushed filibuster of high-speed gibberish at the end.
I wonder whether this is good-spirited self-regulation, or whether Florida has a state law regulating payday lenders requiring these sorts of warnings (in which case, bravo Florida). More cynically, it could be the former animated by fear of the latter. But in any event, I thought this was good, responsible lending practice, at least based on my (literally) arm chair analysis.
So hurrah for (at least) one Florida payday lender!
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I just posted to SSRN a paper that Credit Slips readers might find interesting. It’s called, "Beyond Usury: A Study of Credit Card Use and Preference Among Low-Income Consumers." It is the first of two papers based on an empirical study I did about how low-income women use and think about credit cards. This paper examines paternalism questions in the usury debate. Most people who write about the topic seem to accept – and the available data seem to support – the premise that re-imposing usury caps on credit card loans would lead to fewer credit cards for low-income people. I wanted to learn what low-income consumers thought about that trade-off. It seems that no one had ever asked these consumers themselves what they thought of the current system of easy credit with high interest rates versus a system wherein interest rates were lower but with a corresponding greater degree of difficulty in obtaining a credit card in the first place. The participants in my study were deeply ambivalent on this question. They were frustrated and angry at their credit-card companies, but they still thought credit cards were a necessary financial tool. It turned out that the issue they were most concerned about was not high interest rates in of themselves but rather the temptation to spend and borrow at those rates, even when they knew they would regret it. The discussion then shifted to how to redesign credit cards so that consumers could better control their temptation response to them. In the paper, I build off their ideas to develop a proposal for "self-directed credit cards," which would allow consumers to pre-commit to set levels of credit-card usage and avoid the temptation to spend or borrow more in the heat of the purchasing moment.
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In 2005, Congress gave the credit industry what it wanted: tighter bankruptcy laws. In 2006, the credit industry responded by mailing out 8 billion credit card solicitations–up 30% from 2005. Larry Ausubel and others predicted during the debates over the bankruptcy laws that if Congress made it tougher to go bankrupt, then lenders would engage in riskier lending as they tried harder to get people to borrow.
What kinds of risks are the card companies willing to take on? With about 110 million households in the US, that’s about 73 card offers per household. If the average card offers is about $5,000 in pre-approved credit, that about $365,000 in offers for every American household–or about $1000 a day, every day of the year.
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Over the weekend, the Champaign News-Gazette published a story about rising medical debt and the use of credit cards to finance that debt. The story followed report earlier in January from Demos and The Access Project about the use of credit cards by low- and middle-income households to pay for medical expenses. The report, "Borrowing to Stay Healthy: How Credit Card Debt Is Related to Medical Expenses," is available online. Among its key findings:
"Twenty-nine percent of low and middle-income households with credit card debt reported that medical expenses contributed to their current level of credit card debt. Within that group, 69 percent had a major medical expense in the previous three years. Overall, 20 percent of indebted low- and middle-income households reported both having a major medical expense in the previous three years and that medical expenses contributed to their current level of credit card debt."
The report suggests troubling policy issues for those concerned about credit, bankruptcy, or health care. The report is well worth a quick read, and it suggests a fair amount of consumer debt may be medically related. Credit card debt is expensive. Moreover, we may not have a good handle on burden that high-deductible insurance plans are imposing on middle-class families. The government statistics each month simply report "consumer debt," and policy makers will take away from that label whatever information they’re inclined to see in it.
It was not surprising to me that the local newspaper in Champaign, Illinois, would have spent the resources to create a story on this topic. We’re one of the battlegrounds over what it means for a hospital to be nonprofit. Last September, the director of the Illinois Department of Revenue issued a ruling that one of our local hospitals lost its exemption from real estate taxes for failing to provide a minimal level of charity care. An explanation of the decision from law firm Duane Morris appears here.
The hospital involved in that decision, Provena Covenant, is featured prominently in the newspaper article. Both Provena and another local hospital, Carle, provide interest-free repayment plans to patients who qualify. The third area hospital, Christie Clinic
"has an arrangement with a medical credit card company called CareCredit to finance its patients’ bills that stretch beyond three months. . . . CareCredit offers deferred interest plans for up to 18 months in which customers can avoid all interest charges if they pay off their debts in the agreed term, company spokeswoman Christy Williams said. However, customers who fail to meet the terms are subject to interest rates of about 23 percent or higher for the entire debt, and the interest rate can rise to 27 percent or higher on delinquent payments, according to a CareCredit application."
It sounds like we may continue to be a battleground in the definition of "nonprofit."
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A growing body of research suggests that humans make decisions that are not entirely consistent with the picture of an economically rational actor (e.g., in an experiment, econ students spend more when they use credit cards than when they use cash). A new study by Sumit Agarwal, Chunlin Liu, Nichaolas Souleses, and Souphala Chomsisengphet uses data from a credit card company that offered two cards: one with a higher interest rate and no annual fee and a second with an annual fee and lower rate and the subsequent borrowing. They then studied the paying behavior of the customers to test consumer rationality in this limited sphere.
Agarwal, et al, report that consumers get the right answer about 60% of the time–that is, those who borrow little or no money correctly take the no-fee card and those who borrow more money over a longer time correctly pay a fee and take the lower interest rate option. Of those who make the sub-optimal choice, some make changes later (as the experiment permitted), but the net errors were substantial, costing many consumers hundreds of dollars even in this limited test. Agarwal and colleagues note that "a small minority of consumers persists in holding substantially sub-optimal contracts without switching." (I would report the percentages, but I can’t quite figure them out from the table.)
Do these data support the notion legal policy can be shaped by the presumption of economic rationality, or do the data support a call for more regulation? After all, a majority of consumers get the decision right, and an even larger majority get it right after they first lose some money. On the other hand, a 40% error rate is pretty staggering, particularly in light of the authors’ note that this is an "especially simple decision" that may have limited applicability in more complex decision making.
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Yesterday, news stories appeared in a number of places about a new report from the Small Business Administration (SBA). This headline from the Miami Herald nicely summarizes it: "Credit Cards Drive Up Small Business Debts." If you look at the bankruptcy schedules of the self-employed, there is no question that credit card borrowing plays a major role in financing small business. With the high interest rates that credit card debt carries, it may be a dubious mechanism to gain small-business financing. For small business owners, the advice given in the Miami Herald article by Michael Bush, president of SCORE (a small-business counseling group), is sound: "The only case where credit card debt might make sense . . . is to
cover short-term cash flow problems, but only after draining bank
accounts and borrowing money from family and friends."
The Miami Herald states, "From June 2004 to June 2005, the number of businesses with outstanding
loans under $100,000 jumped from 15.2 million to 19 million. A full 70
percent of that figure was due to credit card debt, the study found." That appears to be a misreading of the underlying report, which is quite understandable given the report’s confusing presentation and incomplete explanation of how the numbers were calculated. The 70 percent figure appears to be the percentage of loans under $100,000 that were done by the largest banks. Exactly what else does the SBA report say? With a stack of bluebooks that needed graded staring at me, I did the only sensible thing and found something else to do. Hence, I spent part of my morning trying to decipher the SBA report. Here is what I took away from it.
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The quality of the students that are drawn to legal education is one of the humbling things about teaching in a law school. One of my bright students, David Fuller, dropped by the other day with some interest thoughts about the N.Y. Times story on charitable giving and religious tithing using credit and debit cards. I asked David if he would write up his thoughts so that I could post them here. David wrote:
When I was a kid I remember watching my dad rummage in his wallet for the Sunday offering, while the ushers come up the aisles in church with their collection plates. Now, instead of rummaging for a stray bill you can swipe your credit card in a new breed of ATM, what Marty Baker, pastor of Stevens Creek Community Church, calls an Automatic Tithing Machine. This is described in the article, "The Lord Giveth, and Now He Takes Visa," published in the December 10 issue of the New York Times. Mr. Baker had these "giving kiosks" developed for his church after he realized that he, like his congregation, rarely carried cash.