Is More Credit Card Regulation Hurting Consumers?

Regulations are supposed to help consumers, right?  Perhaps someone should remind the current administration.

There is no denying that the Credit CARD Act of 2009 has appeared to help consumers in many ways.  Interest rate hikes are less common.  Late fees are less frequent: 28 percent of households paid these fees in 2012, compared to 52 percent in 2008.  Over-limit fees follow a similar trend.

However, there are two sides to every coin.

For starters, there's no such thing as a free lunch in life.  You don't need a degree in economics to know that when businesses are forced to reduce profits in one area, inevitably, they will have to make up the shortfall elsewhere.  That's just common sense.

During the first year that a new credit card account is opened, it is now almost impossible for the bank to raise the interest rate.  The standard APR is essentially locked, unless the account is 60 days delinquent, or there is an increase in the Prime Rate (which has remained the same since December 2008).  Even if the creditworthiness of the customer deteriorates substantially, the rate cannot be adjusted to reflect the increased risk.

In the end, we all have to pay the price for this.  Call it credit card socialism.

Because the credit card companies can't always charge the riskier borrowers more, these companies are forced to charge all of us more, all of the time.  Since the passage of the CARD Act, the interest rates on credit cards are the highest that they have been in decades, in terms of their spread above one-year treasury notes (which are comparable to the banks' cost of borrowing).

In a nutshell, those consumers with excellent credit scores and flawless histories now have to pay higher rates than they previously did.  Meanwhile, the high-risk borrowers get to enjoy lower rates than they otherwise would.

Among the nearly 50,000 credit card reviews posted on Credit Card Forum, you will come across countless complaints by consumers about this very issue: "I have a flawless credit history and an 830 credit score," writes one commenter.  "But since this law, the difference between the lowest and highest interest rate tiers has shrunken a lot.  Even though I qualify for the lowest tiers, they're only a few points less than the highest tier -- the tier that people with terrible credit will get.  That's not fair."

This isn't the only way that increased regulations have had a negative impact on consumers.

Another example is credit limits.  Previously, these were largely unregulated -- the banks could decide how much credit someone was eligible for.  Now, it's not that simple.

As is the case with many aspects of the subprime mortgage crisis, this administration blames the banks for 100% of the fault, rather than assigning any responsibility to the consumer.  The fact that many people falsified their mortgage applications with regard to income and job history was also deemed the banks' fault.  Obviously, greed was a problem for the mortgage industry, but the same could be said about the individuals who were trying to aggressively flip houses they couldn't afford for double-digit profits.  Both parties are responsible, but the blame is largely one-sided according to this administration.

As a result of this war on banks, they have become ultra-defensive with their credit card businesses.  A cloud of fear hangs over the industry -- fear that if they give a customer a high credit limit and head south down the road, the bank -- instead of the individual -- will be blamed and face fines.  This is resulting in lower credit limits for customers, but it's not the only factor.

Based on their interpretation of the CARD Act, some issuers feel that they have no choice but to perform what is known as a "hard" credit inquiry every time a customer asks for a credit limit increase.  This type of credit inquiry is recorded on your credit report and can negatively impact your score.  If you have a FICO of 800 and get a hard credit inquiry, it wouldn't be unusual for your score to drop by 10 or 15 points.

Previously, banks would oftentimes increase a customer's limit without doing the hard credit inquiry.  But based on some rather vague wording in the CARD Act, they now fear they must collect as much information as possible to prove that the higher credit limit is justified, so that they don't get blamed for giving too much credit.

Ironically, this increased regulation is actually hurting consumers' credit scores; in order to get a credit limit increase, you may have to jeopardize your credit score.

Lastly, we come to the marketing of credit cards.  Due to the fear of fines, credit card companies have aggressively restricted the way their products can be marketed to consumers.  There are "zero tolerance" policies for third-party advertisers (such as personal finance websites) who publish an outdated APR or annual fee on a given card.  However, a policy like that is a good thing.

What's not good: fear within the industry has grown so much that some issuers have decided it's too risky to allow third-party advertisers to write reviews of their credit cards.  Instead, these websites are often allowed to use only the bank's verbatim marketing text for the cards they are advertising.

The problem with this approach is that the official marketing content is brief and heavy on legalese.  The consumer doesn't always understand all of it, unless it's accompanied by an in-depth review written in plain English.  Unfortunately, not every card issuer allows independent reviews like that anymore.  So while politicians want more disclosure with financial products, due to the fear of fines, they are actually evoking the opposite response.  That's not helping the consumer.

In short, most people agree that regulations -- when executed thoughtfully and in moderation -- can have a positive effect.  However, the pendulum has recently swung so far that the case can be made that the outcome is beginning to hurt us more than it is helping.

Michael Dolen is the Founder and CEO of Credit Card Forum, the leading social community solely dedicated to credit cards.