Plastic Is Proving Resilient

CUNA’s E-Scan Newsletter
September 14, 2010 | COMMENTS

Consumer credit levels have dropped sharply since their peak in July of 2008, and that's likely to continue as households experience continuing pressure from high unemployment levels. But along with flat or declining credit card use—and the effects of the Credit CARD Act—other emerging trends have implications for credit unions.

The credit card business, which reported large losses as cardholders defaulted at record rates, is back to producing rising profits across the industry, reports The New York Times. The default rate is falling and fewer people are falling behind on their bills, according to data compiled by Moodys.com.

The default rate peaked in March when card accounts had to be written off at an 11.2% annual rate, according to data from Moody's. By June, the rate was down to 10.3%.

The default rate, representing accounts at least six months overdue, is a lagging indicator. In contrast, the proportion of accounts delinquent—those having missed at least one payment—peaked a year earlier, in the spring of 2009.

The default rate will continue to fall even if the economy suffers a double-dip recession, according to Moody's. The reasoning:

• Credit card lenders have tightened lending standards since late 2007, and those standards remain extraordinarily tight by historical standards.
• Tougher standards, combined with the fact that the riskiest customers have already defaulted, make a new default wave less likely.

New payment mix

Debit cards are in use in 71% of American households, but only 19% of consumer households use them as a primary payment method—so far.

Consumers change payment mechanisms for a variety of reasons, according to a recent paper from the Filene Research Institute. A new and complex mix of payments—from credit cards to debit cards and automated bill payments—has emerged.

Filene notes that:

• Intensive credit card users have higher incomes and higher debt levels than those with only debit cards and those with neither card. Intensive users also have higher household net worth and a higher net worth to income ratio.
• Heavy debit card users are generally younger. Debit-only users decrease by age, from 29% of 18- to 29-year-olds to only 7% of those over age 70. Conversely, credit-only users increase by age, from 29% of 18- to 29-year-olds to 49% of those over 70.
• The fraction of households using electronic billing has grown much faster than the rate of adoption for earlier technical innovations.

Credit card use among households with high income and net worth may be the vestige of loose credit and attractive credit card rewards. But if the new credit card rules limit the rewards offered to cardholders, debit use could catch up. If not, the advantages of non-revolving credit card use could keep credit cards at the top of the payment heap for middle- to high-income consumers.

Credit cards, however, are a mature product, entrenched but unlikely to surge again.

Debit cards could still see significant usage gains, especially if financial institutions and network providers can convince customers to use them for categories like furnishings, personal care, and medical care—all items for which debit use is currently scant. It's also possible that a new generation of younger users, shocked by the Great Recession, will prefer debit cards as a check on overspending.

What might be perfectly rational reasons for using credit cards (interest-free loans for non-revolvers and generous rewards) might not appeal to those who use debit to avoid the dangers of revolving debt. New overdraft regulations could also make debit simpler and more attractive for everyday users.

And as ever-more sophisticated and niche payment systems emerge, credit unions will need to pay attention to consumer demands and trends. “It's entirely possible that 10 years from now, our cell phone–transacting children will stare blankly as we talk about choosing between credit and debit cards,” say Filene researchers.

Rather than predicting the imminent demise of this or that payment method, Filene's research encourages credit unions to recognize that a complex mix of payments—each attuned to the context and convenience of the purchase—is here to stay.

This article originally appeared in CUNA's E-Scan Newsletter. Reprinted with permission.