Do-it-yourself credit cards studied
Low-income consumers offer their suggestions on credit card reform
By Jeff Beneke
Faced with a unique set of issues, low-income women would prefer to set their own credit card limits and restrict the types of stores that accept their credit cards, according to a study published in the Texas Law Review in February 2008.
Angela Littwin, a lecturer at Harvard Law School, surveyed this particular group of consumers and concluded they would be better served by a "self-directed credit card," allowing them to set their own credit card limits and restrictions. Littwin discovered that some people were actually less concerned with capping interest rates than with controlling temptation. Her solution? A new breed of card, hypothetically named the "You're in Charge" credit card. Of course the question remains: Will the credit card industry listen?
Credit card reform
During a round of discussions that resulted in the federal bankruptcy law reform in 2005, Littwin noticed that consumers were not included in the debate. In the dozens of hearings Congress held, she says, lawmakers "invited testimony from credit card issuers, judges, lawyers, academics and all manner of professionals, but almost never from individual debtors."
Credit card reform is again a hot topic in Washington, with proposals to crack down on the industry through legislation or regulation. The industry opposes such efforts, arguing that it can only afford to extend credit to riskier consumers if it can balance that risk by charging higher rates and fees. According to Edward L. Yingling, president and chief executive of the American Bankers Association, the proposed restrictions would "result in less competition, higher consumer prices, fewer consumer choices and reduced consumer access to credit cards."
Littwin, with a background in poverty law and having studied under consumer bankruptcy expert Elizabeth Warren at Harvard Law School, wondered how low-income consumers would respond to this potential tug of war between lower rates and tighter credit. To find out, she launched a detailed study of 50 women, primarily of Hispanic and African-American descent, aged 21 to 61, with a median monthly income of $770 and who live in public or subsidized housing to learn about their credit card habits and concerns.
The study participants made it clear that they, even more than other consumers, have a strong need for and attachment to credit cards. The types of changes they would like to see have less to do with regulatory proposals than with individual empowerment; specifically, the power to set their own limits and control the flow of solicitations they receive.
What worried the study participants most was the temptation to use credit cards for spending and borrowing that they later regretted. Two-thirds of the women in the study cited temptation as their No. 1 problem, while only 42 percent ranked interest rates as a chief concern.
Why credit cards are desired ...
The participants in Littwin's study expressed specific and pressing reasons for wanting credit cards in their lives:
- Emergencies: For people without savings, a credit card is a vital safety net, offering quick, easy credit when a medical, housing, transportation or food emergency arises.
- Lack of stigma: Many of the women expressed how much they appreciated being able to access credit without the stigma and restrictions that often accompany government and charity assistance programs.
- Safety: For women who face a higher than average threat of crime, carrying a credit card instead of cash offers security. If a card is lost or stolen, the consumer can avoid personal financial loss, which is not the case with cash.
- Necessity: Without a credit card, many purchases are difficult or impossible. One study participant said, "When you rent a car, that's the first thing they ask you, do you have a credit card? ... When you reserve a motel, they want a credit card. And when you go to the video store, for God's sake, they want a credit card."
- Status: Credit cards offer access to the financial mainstream. Many of the women experienced an emotional boost when they received their first credit card.
- Money savings: For many low-income, inner-city residents, paying bills often means buying money orders and paying check cashing fees. Credit cards can eliminate or reduce these kinds of expenses.
... and why they're feared
While high interest rates and bloated fees weren't popular, the participants cited the biggest problem they face is, "the way credit cards influence their spending and borrowing patterns." Specifically, the many temptations credit cards provide, namely:
- Limits that aren't limits: Not long ago, credit card companies would not allow purchases that exceeded a cardholder's credit limit. Today, it is more common for excessive charges to be accepted and for unknowing cardholders to be assessed a hefty, "over-the-limit" penalty. Participants in Littwin's study often first learned about this penalty only after receiving a bill informing them they had exceeded their limit.
- Too-high limits: Thirty-eight percent of the women said they wanted credit limits more closely aligned with their incomes. One participant, with an annual income of $25,000, was shocked when the limit on her card was raised to $10,000.
- The compulsion to spend: Succumbing to temptation can have very painful consequences. Many of the women said they initially obtained a credit card to handle emergencies only, but soon found themselves using the card for routine purchases.
What the ideal credit card looks like
Just as a dieter might be counseled to keep junk food out of the house, a credit card user could, if given the chance, control spending and borrowing behavior with a self-directed credit card. Here are some of the respondent's top choices in creating their own credit card:
- Setting your own limits: For many of the women surveyed, credit limits are set too high, and trying to get them lowered is no easy task. The woman with the $10,000 limit called her credit card company several times asking for a reduction, without success. In addition, credit limits can be raised without the knowledge or consent of the cardholder. Based on her research, Littwin suggests that cardholders be granted the right to set their own limit, and that credit card companies be required to obtain the cardholder's permission before raising it.
- Stop shopping: One way to reduce compulsive spending is to limit where the card can be used, Littwin suggests. For example, allow cardholders to choose where their card can be used, such as only in grocery stores and pharmacies. Stores where a consumer feels particularly vulnerable to buying things can be put on a no-charge zone.
- Instant balance feedback: With each transaction, cardholders would like a receipt indicating how much credit is still available on the card.
- Limiting solicitations: Based on feedback from her survey, Littwin suggests that the opt-out option be changed to allow consumers to choose the types of offers they are willing to accept. For example, a consumer could limit the types of offers for cards with safety features such as low credit limits and no over-limit fees, while blocking all others.
- Providing set installment payment plans: With credit cards, consumers decide their own borrowing and repayment strategies and the issuers apply payments to higher interest purchases first. Why not provide a system whereby each card use triggers an installment payment plan with set amounts due on set dates at set rates and fees? Littwin notes that such a program "would allow consumers to internalize better the costs of their purchases at the time of spending."
Can it work?
When Littwin presented the findings of her study and defended the self-directed credit card idea, one objection she frequently encountered was the argument that it would simply be too technologically complex to allow so much customization.
Maybe not. MasterCard recently introduced the "inControl" card, which has many similarities to the self-directed card proposal. The inControl card is offered to employers to control spending on company credit cards. The employer can set hard credit limits, specify where the card can and cannot be used and can receive text messages whenever the card is used. Business Week reports that MasterCard is considering an inControl card for college students that would allow their parents to set limits on and monitor the card's use. In addition, Capital One in 2007 introduced a "Card lab" program that offers some customization of rates, rewards and design.
Ronald Mann, a law professor at Columbia University, points out in his book "Charging Ahead" that Netflix became a huge success when it marketed its service as one that eliminated the substantial late fees movie renters were paying to Blockbuster and other traditional movie rental services. This forced Blockbuster, in turn, to announce its own end to late fees.
Littwin, who joins the University of Texas Law School faculty in the fall, thinks a similar opportunity might exist in the credit card industry. "Consumers know their own needs better than anyone else," she says. "Credit card companies should provide them with better tools to help them manage their own financial affairs."
Published: May 21, 2008
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