Credit card companies make it impossible for consumers or markets to know the true cost of credit, according to Georgetown Law professor Adam Levitin. The professor makes his point with a pop quiz:
… what’s the interest rate on the credit cards you’re carrying? How about the default rate? Do you know what constitutes an event of default? What will trigger a penalty fee or surcharge? How much are those fees? If you’re like most Americans, you probably cannot answer many or all of these questions.
The absence of this vital information has indebted millions of Americans and nourished the subprime meltdown. The professor concludes that under our current system, it is “virtually impossible to determine the potential costs of carrying a balance.”
Credit cards’ complex, non-transparent pricing structure also invites abusive fees and billing practices like late fees that do not correlate with either the balance or time a payment is late, universal cross-default and two-cycle billing. If you are among the nearly two-thirds of Americans who do not consistently pay off your card bills in full and on time, then you’ve probably been hit with some combination of these fees.
The complexity of credit card pricing helps explain the soaring growth of American credit card debt, now approaching $1 trillion. Credit card debt has strong correlations with consumer bankruptcy filings, and contributes to inflation and decreased savings rates and purchasing power for new goods and services. Dollar for dollar, as Ronald Mann of Columbia Law School has shown, people with credit card debt are more likely to file for bankruptcy than people with any other types of debt. Society as a whole ends up holding the bag for the widespread costs of skyrocketing credit card debt.
The Byzantine complexity of credit card pricing structures makes it impossible for people to possibly use credit cards intelligently and responsibly. No amount of increased Truth-in-Lending disclosure or consumer financial literacy education will change this. I qualify as a savvy and dedicated reader of financial contracts, but frequently I cannot calculate with certainty the costs of carrying a credit card balance, and my calls to card issuers’ 800-number servicing lines have done nothing to clarify matters. The lack of straightforward, easily comparable and understandable pricing is a major factor in the growth of credit card debt.
The professor wants the market to set the price of the credit, which is impossible so long as creditors obfuscate the true cost. Congress can constrain the credit card companies, but each cardholder should know not to take on more debt than they can reasonably afford, and to pay off their card in full every single month.
Complex pricing of credit cards should be simplified [Chicago Tribune]