Wednesday, October 29, 2008

Pick a Card!

Photo by eliazar

In Payment Systems class, we recently had our "why do students prefer to use debit cards" discussion. I'm continually amazed that, even after learning how much more practically and legally protected users of credit cards are (TILA and Reg Z) as compared to users of debit cards (EFTA and Reg E), students still express a strong preference for using debit cards. Note that my question relates only to the payment function of the card, not the (dangerous) credit function. I use credit cards for every possible payment, but I have not paid a penny of interest or fees since I was a poor judicial clerk years ago outfitting my first apartment (and I've received hundreds of dollars in rewards over the years to offset those early interest payments). I understand (and explain to my students) that card issuing banks are still making money from my use through interechange fees imposed on merchants, but I'm quite willing to pay marginally higher prices at the counter (though I doubt this happens) in exchange for the fabulous convenience and protections of credit card use.

Students' explanations for their preference for debit cards make sense--they fear credit cards inherently (see Angie Littwin's fascinating paper on this subject), they fear the lack of external control on spending and the psychological effect of credit card use increasing spending, and they really fear the credit card issuing banks' game of imposing confusing interest calculations and hefty and spiraling fees for any minor deviation from the contract (overlimit, late payment, etc.).

The credit crisis has brought us one more explanation for why many payors might prefer debit cards: in an abrupt about-face from recent practice, card issuing banks are slashing access to consumer credit! Increasingly today for those with imperfect or underdeveloped credit histories, credit cards may not be an effective option for making all monthly payments, as credit limits may be insufficient to cover a month's payments (even if the payor has money in the bank--or will by month's end--to cover the charges).

It occurs to me that this might be a blessing in disguise. Perhaps the scaled-back credit limits can act as the external spending limit that my students fear. If people can discipline themselves to remain under their lower credit limit, they might develop better spending and budgeting habits that can carry over to the post-crisis time when credit becomes more freely available. I hope at least some people can use this period of tighter credit to begin using their credit cards as disciplined payment devices that offer really substantial protections against fraud and merchant machinations, not to mention real financial rewards (eventually) for those with good histories.

A friend of mine recently acquired a credit card with a reasonable limit. S/he has found that pulling out the card for every payment has disciplined her/him to control spending, at least for now, as s/he is now acutely aware that all purchases are mounting on one bill, which can (and should) be checked periodically (weekly?). That fat "balance" figure, though it is no different from what s/he used to spend monthly, makes an impression that a list of debits and a shrinking bank balance does not . . . and the credit card again offers better legal and practical protections in case of fraud or other transaction problems.

I'd really like to see credit card issuing banks hoisted by their own petard. Fine, you want to cut credit limits, well we'll respond by training people to use your product in a more constructive way for us, avoiding the traps you've set while taking advantage of the benefits for which merchants are now paying. This last part might change ultimately if the interchange fee war is decided in merchants' favor, but I'm not betting on that, and I'll change my practices when and if that happens. Vive la carte de crédit!

Update: For a discussion of people who use this strategy successfully, see here.

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