Signs for American Express, MasterCard and Visa credit cards are shown on a New York City store's door
Say you owe someone money. You go to pay him back. He takes your money — and then charges you $15 for having paid him. That might seem unfair. Yet a few years ago, the Government Accountability Office found it to be standard practice for certain credit-card companies when customers made payments over the telephone. The investigatory arm of Congress couldn't say exactly how many card companies imposed such phone-payment fees — nowhere were the firms required to disclose their policies.
The vilification of credit-card companies — not entirely undeserved — has reached fever pitch. On Thursday, President Obama gave a speech in Albuquerque, N.M., and shared some of his thoughts in an effort to help push through a bill, currently in front of Congress, that would overhaul the credit-card industry's interactions with its customers, including the interest rates and fees it charges. "You should not have to worry that when you sign up for a credit card, you're signing away all your rights," the President said. "You shouldn't need a magnifying glass or a law degree to read the fine print." (Read "The Real Problem with Credit Cards: The Cardholders.")
The industry, naturally, is crying foul. Having the flexibility to change interest rates and charge all sorts of fees lets card issuers free up more credit for more people, they argue; folks with lower prospects for repayment pay higher interest rates, while good, creditworthy customers don't have to pay as much. Plus, they say, now is exactly the wrong time to relegislate the lending process. Owing to the credit crunch and soaring default rates, card issuers are already reeling in credit limits and accepting fewer new applications. "There are two ways of managing risk — for a particular borrower and across a portfolio," Ken Clayton of the American Bankers Association recently explained. "If risk-based pricing changes, lenders will have no choice but to contract credit."
That sort of thinking, while valid, misses the larger picture. If one brackets the equally legitimate notion that Americans probably should have less access to credit-card borrowing and simply dissects the bill before Congress, one starts to see that the proposed changes aren't really about dictating what a card company can or can't charge borrowers. There's a way to do that: impose interest-rate caps, as many states' usury laws do. That isn't what Congress is on track to do. Instead, the new law, which would build on regulations issued by the Federal Reserve and other agencies at the end of last year, would, above all else, inject transparency and fairness into credit-card contracts.
That goal is easily seen in the legislation's key feature: limitations on how card companies treat customers' existing balances. When you sign up for a credit card, you agree to pay a certain interest rate on the balance you carry — you enter into a legal agreement to that end — but historically, your card company has been able to change that rate for all sorts of reasons. Maybe you charge a greater chunk of your credit limit than normal. Maybe you're late on a payment to some other company. In recent years, the difference between the interest rate folks sign up for and the average penalty rate imposed later on has skyrocketed, from 8.1 percentage points more in 2000 to 16.9 points more in 2008, according to the Center for Responsible Lending. (Read a brief history of credit cards.)
Tellingly, the proposed law doesn't try to tweak those figures. If you go from being a good credit risk to a bad one, credit-card companies can still take steps to make sure they continue to be adequately compensated. When you go to buy new things, they can charge you 30% a year if they want to. The thing they wouldn't be allowed to do under the new law is to go back and change the terms of your original agreement — that is, hike your interest rate on existing balances — except in very few situations, such as your egregiously failing to pay your bill (for 60 days or more, in the version of the bill before the Senate).
The approach therefore is not to smack down credit-card companies for high interest rates but rather to hold everyone to the original agreement about how much credit will cost. "Virtually no other contract in this country allows a business to change the terms of an agreement once a purchase has been made," says Travis Plunkett of the Consumer Federation of America. "That's the main issue." (One Senator suggested an interest-rate cap, but that was shot down.)
Other provisions of the law are similarly set up. A card company can still change the terms of your contract. It will just have to give you 45 days' notice. It's still possible for an issuer to assess a fee when you go over your credit limit — but only if you indicate that you want to be able to go over your credit limit in the first place, instead of having your card denied at the point of purchase. Companies can still set minimum required payments however they see fit. But they'll be required to tell you how long it would take to pay off your balance if you stick to that minimum amount each month.
A few of the changes would be more heavy-handed. Those phone-payment fees would be prohibited outright (unless a customer asks for expedited service, a genuine additional cost which the card company would be allowed to pass along). It could also be substantially harder to market or sell credit cards to young people (those under either 18 or 21).
But for the most part, the bill before Congress isn't about changing the game on card companies. It's about creating a fairer set of rules to play by.