Instead of meeting with the executives of credit card issuers and sactimoniously lecturing them about not raising rates, as he is doing today, President Obama would serve card holders more effectively by meeting with economists and listening to their concerns about the dangers of price controls on credit card services. Economists from all schools of thought — from Keynesian to supply-side — recognize the basic principle of microeconomics that price controls lead to shortages of commodities, including credit, and cause distortions that harm ordinary consumers.
Limits on risk-based pricing, as enacted in rules last year from the Federal Reserve, and in proposals in Congress that go beyond these rules, could result in sharp limits in the availability of credit at a time when policy makers want to get credit flowing again. Recent cuts in consumers’ lines of credit over the past few months are in part responses to thes Fed rules that ban sensible risk-based pricing practices, such as the so-called “universal default.” Under this longstanding practice, credit card issuers would sometimes raise rates for defaults on another credit card or loan, because this may have signaled a weakeniong in a consumer’s credit profile. Now with the looming ban of this practice, credit card issuers may be reacting by limiting credit lines for all card holders because of the loss of the ability to engage in this type of risk-based pricing. So responsible card holders who never miss a payment are paying the price for these misguided rules.
And consumers and the economy will pay an even higher price if further restrictions are enacted such as proposed caps on annual percentage rates. Politicians don’t seem to grasp that expanding credit responsibly is incompatible with limiting risk-based pricing. Again, responsible card holders — some of whom don’t even pay interest because they completely pay off their balances — could lose out in the form of the return of annual fees and the loss of credit card “rewards” such as airline miles to make up for the costs from bans on risk-based pricing.
President Obama may also want to read studies sponsored by the respected Kauffman Foundation in Kansas City, Mo., that find that personal credit cards are a major source of funding for startup entrepreneurs. Most famously, Sergey Brin used personal credit cards as a college student in the 1990s to start the web search engines that is today know as Google.
In some instances, credit cards have been issued foolishly by banks and used foolishly by consumers. Fraud in credit card practices should be punished just as fraud is in any type of business. But there should not be a “Nanny State” standing between willing lenders and willing consumers who desire to lend and borrow at agreed-upon rates. Otherwise, the enterprises of the future Sergey Brins may be snuffed out from the lack of innovation in credit.