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Jury's Still Out on CARD Act

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We are writing in response to the Jan.22 American Banker article "CARD Act Fight to Offer Clues to Future CFPB Regs." The article offers an important contribution to the dialogue about the CARD Act, and we appreciate your allowing us to be a part of it. As such, we felt it important to clarify or expand on a couple important points in the article.

The article states credit card rates declined in the two years after the Act took effect (the most material impacts took effect in early 2010). That, while true, misplaces the proper start point for evaluating whether the Act had an impact of rates. Credit card issuers knew the impacts of the Act no later than May 2009, when it was signed into law, with most of the provisions known or easily anticipated prior to that date.

As a result, card pricing and risk management decisions, largely driven by the provision that account re-pricing could not impact established balances, were being made at issuers prior to the effective date of the Act. This is widely understood in the industry and is, indeed, explicitly recognized via regulatory requirements that issuers track re-pricing efforts made before the Act took effect in the same manner as is required for changes made after the Act took effect.

We believe that a more appropriate timeframe for evaluation, then, is to compare today's credit card pricing to the period before the Act's requirements were anticipated. It also is important to compare pricing to a period when credit risk levels industry-wide are similar to today, so as to avoid comparing pricing during periods of dramatically different credit risk. We therefore use a start point for card pricing of 2007, when annual charge-off rates for credit cards were 4.0%, the same as they are today. At that time the average card rate for those who revolved balances was equivalent to Prime plus 6.4%. Today, the average equivalent rate is P plus 10.0%.

As to the belief that this increase is due to recession-driven credit quality pressures, we specifically choose comparison periods which are outside the span of the recession's impact. To believe that credit card rates should remain higher than pre-recession levels due to the credit risk environment of 2009-2010 does not ring true to us and presumes that issuers can make up for past losses with higher prices today. If true, it would be reasonable to think that other consumer lending products would also have held steady over this timeframe. They have not: auto loan rates are down 30% since 2008, mortgage rates are down 40%. Credit card rates are down 3%.

We are more sympathetic to three other potential reasons card pricing has not declined in proportion to the rate environment or other lending products. First, it is possible that cardholders are not actively seeking lower rates because their nominal rate and minimum payment has stayed relatively steady even if it has increased as a function of Prime.

Second, issuers may have some pricing power and the market is not perfectly competitive, though one would need to believe that this is truer today than prior to the recession to fully support this as the reason rates have not decreased.

Third, it is possible that changes to securitization or other rules at the largest issuers have increased funding costs or risk assessments in ways which mitigate the otherwise expected impact of a declining rate environment. When the rate environment increases, specifically Prime, we will be better able to evaluate the validity of the first two possibilities. If Prime increases but card rates do not, this will support the argument that the Act did not increase card rates to the degree it appears today. As to the last point, if it can be demonstrated that other regulatory changes have pushed up issuer costs, one would be left to determine how to apportion higher consumer card rates to different regulatory requirements, but not to refute that rates have increased as a result of additional regulation.

Lastly, we believe that the article may be read to infer that we are opponents of the CARD Act. We are not. We believe that many of the protections are fair and reasonable, particularly the most significant change – that existing balances by-and-large cannot be re-priced.

We offer our analysis in the spirit of advancing the dialogue and participating in this worthwhile review of the Act and evaluation of its costs versus its benefits. While our personal opinions are that the Act is largely on target (though we quibble with a few particulars), our analysis is agnostic on whether the costs are proportional to the benefits. But we find the claim that the CARD Act has had no cost to cardholders to be too hopeful based on the data as currently known.

Timothy Kolk is president of TRK Advisors, a credit card market consultancy.

 

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