Today, the Credit Card Accountability, Responsibility, and Disclosure (CARD) Act of 2009 goes into effect. While the law, passed last May, is being hailed as a boon for consumers, it's already causing a slew of unintended consequences.
Congress should carefully consider how the CARD Act will harm consumers and entrepreneurs and revise the law’s flawed provisions. Furthermore, Congress should resist populist proposals that would further distort the credit card market, such as interest rate caps or price controls on payment card interchange fees.
The CARD Act will make it harder for consumers to get credit just as policymakers are trying to get credit flowing. Ironically, the bill will result in higher interest rates for many cardholders, because it limits the ability of banks to properly price the risks associated with cardholders who make late payments. Even responsible credit cardholders who pay off their bills at the end of each month may suffer as banks increase annual fees and cut back on rewards programs to make up for lost revenue stemming from the law. The New York Times speculated last May that the law might create “a penalty for thrift.” CARD Act proponents claim the bill will make credit card marketing more transparent to consumers. Unfortunately, however, the so-called “Credit Card Holder Bill of Rights” goes beyond disclosure rules and imposes paternalistic rules that limit consumer choice and undermine sound risk-based pricing practices that have long been relied upon by credit card-issuing banks and credit unions.
The CARD Act imposes discriminatory restrictions on adults younger than 21 who wish to obtain credit cards. The law prevents low-income young adults - even those who can vote and be drafted into the military - from getting a credit card without the cosigning of a parent or guardian. This purely age-based restriction on credit card eligibility undermines the ability of college students and other young adults to establish good credit and learn how to manage credit wisely. Worse, by cutting off students' access to credit, the CARD Act may pressure college students to work more hours and compromise on their studies.
Members of Congress wrongly moved up the date of the law's implementation. Whenever new regulations are codified, firms need a reasonable amount time to adjust their pricing mechanisms to the changes. The Federal Reserve rules that the CARD Act codifies were originally set by the agency to go into effect July 1, 2010. But Congress moved up that date to today. As a result, firms are scrambling to meet these shifting deadlines, and more card holders have had their accounts closed and credit limits reduced than likely otherwise would have. The law also codifies the Federal Reserve's unwise decision to ban the so-called "universal default." A universal default occurs when a credit card issuer raises rates on a cardholder who defaults on a different credit card or loan. This is a sensible risk management practice that enables banks to properly gauge the risks associated with cardholders with weakened credit profiles.
Stifling the payment card industry with federal regulation won't just hurt consumers, it will stifle entrepreneurship, too. Start-ups often have limited collateral, making credit cards one of the only sources of financing for getting off the ground. The Kauffman Foundation has found that almost half of all small businesses rely on personal credit cards for financing. One such entrepreneur is Sergey Brin, who used his personal credit cards as a college student in the 1990s to start the company that today is known as Google.
Fortunately for consumers, Congressional leaders wisely rejected calls from the retailers' lobby to impose price controls on payment card interchange fees. Instead, Congress ordered the Government Accountability Office to conduct a study of interchange fees. In November, the GAO issued its report, telling Congress what many economists and other researchers have been saying for years: that interchange fee controls amount to a massive subsidy for some of the nation’s biggest retailers at the expense of consumers and the community banks and credit unions that issue credit cards. As the GAO report pointed out, when Australia capped interchange fees, consumers suffered from higher cardholder fees with no corresponding decrease in prices! (For more on interchange fees, see my Issue Analysis, Payment Card Networks Under Assault, with Ryan Radia.)