Text Me
How electronic reminders can give consumers the right information at the right time.By Tim Westrich
February 13, 2009
Banks could use text messages to alert consumers of important account information. (CAP/Lauren Ferguson)
Young adults have become accustomed to the notion that getting into debt is a prerequisite for getting ahead. Many have turned to student loan debt to finance the rapidly increasing costs of higher education. And a survey of college students with credit cards by the U.S. Public Interest Research Group found that 55 percent of respondents used their credit cards for day-to-day expenses while in school, and 24 percent used credit cards for tuition.
Once they’ve graduated, young adults are finding that work doesn’t pay like it did for previous generations—particularly because wages have been stagnant throughout the past decade and the costs of benefits like health care are being increasingly pushed onto them—so they often turn to credit cards to pay for their necessities. This comes in the midst of the worst recession in the United States in decades, as jobs and wealth are falling at a rapid pace.
Credit cards have tremendous convenience, as they’ve replaced checks and cash for typical everyday transactions, and have allowed for an explosion of commerce online. But while they are easy to use, they are also remarkably complex, like many other financial services. It’s difficult for cardholders to find information about when they will be charged for a late payment, and to understand what actions will lead to a penalty. The cardholder agreements that come along with cards when first activated are written in language that is above the level at which about 50 percent of U.S. adults read, and information within them is poorly organized.
Moreover, card issuers appear to “price” the cost of using credit cards by taking advantage of cardholders’ behavior biases. For example, issuers take advantage of the fact that cardholders underestimate the probability of paying late or going over the credit limit, and they punish this behavior with penalties.
In addition to a fee, many credit card penalties, such as late payments, come with the burden of an increase in the annual percent rate, or APR, to the penalty rate. This penalty rate can reach as high as 29 percent. The average penalty rate in 2008 was 16.9 percentage points higher than the average purchase APR, or standard APR. For a household that carries the average of $10,678 in credit card debt, being repriced to the penalty rate would result in an additional $1,800 in interest costs per year, according to research by the Center for Responsible Lending.
Getting With the 21st Century
In a recent report, “Putting Credit Card Debt on Notice,” the Center for American Progress proposed one simple technological solution could help level the playing field between cardholders and credit card companies. Text-messages, or a similarly rapid electronic method, could allow a financial institution to transfer information to cardholders at the “teachable moment” when they need it the most. For example, a bank could automatically send a text-message five days before a bill’s due date warning the cardholder that a late payment will result in a late fee and an increase in the APR. The message would include both the event—in this case the due date—and the consequence: both a fee and an increase to the penalty rate.
The right information at the right moment can help cardholders make better decisions and better manage their debt. A text-messaging system by itself would not prevent issuers from continuing to price credit cards however they like, but it would put the best outcomes within a cardholders’ reach.
This approach understands that most individuals don’t behave like homo economicus—the “economic man” of textbooks who maximizes every financial decision and has perfect information to do so. Most cardholders could benefit from having the best outcomes presented to them clearly.
In addition, this approach recognizes that most Americans with credit cards likely have cell phones: 84 percent of the U.S. population uses a cell phone. Cardholders who don’t have access to text-messaging—and might also be those most in need of clear information—could instead receive messages by email, automatic telephoning, or paper mail in an envelope separate from the monthly billing statement.
Electronic messages are very efficient and cost credit card issuers virtually nothing. In fact, may already offer text-messages, showing that the existing messages could easily be adapted into the system proposed here. Four of the five largest banks had text-message alerts of some kind for their credit cards as of October 2008, although only three of the five issue text reminders when payment is due; two of the five issue text reminders when the credit balance reaches a specified level; and only one in five send a reminder if payment is past due. It was unclear whether the messages included the consequences of penalties.
Toward Better Credit Card Policy
To implement a text-message system, Congress should pass legislation mandating that issuers must reach out to a customer through a text message or similarly rapid method if they want to assess any type of late fee or penalty that would increase a customers’ rate to the penalty rate.
The bank would be required to make the contact the first time one of the following occurs:
- The customer has not paid their bill within five days of its due date, with a message that includes the due date and the consequence for being late
- After any fee has been triggered that moves a cardholder to the penalty rate
A text message system should not, however, be a substitute for better protection from the worst abuses in credit cards. A text-messaging program should be implemented in tandem with legislation that makes credit cards fairer by eliminating the worst practices.
The Credit Cardholders’ Bill of Rights Act, sponsored by Rep. Carolyn Maloney (D-NY), would do this by preventing credit card companies from retroactively increasing interest rates on existing balances, giving 45 days’ notice of all interest rate changes, and ending several other billing practices that make it harder for cardholders to pay down their credit card debt. This bill would greatly speed up a similar rule finalized by the Federal Reserve Board last December, but which won’t go into effect until July 2010.
Washington is awash in proposals for revamping banking regulation—and credit cards are one of many financial products that should be examined. Lawmakers should consider how technology can make everyday financial products such as credit cards easier to use and understand.
The right information at the right time has the potential to let households keep their hard-earned money rather than turn it over to banks—money that could be kept in households’ budgets and used to help weather today’s economic storm.
More from Campus Progress on Credit Card Debt:
Video: Erica Williams Testifying Before Congress on College Students and Credit Card Debt
Action Alert: Tell Congress to Protect Credit Card Holders
Video: Financial Challenges 20- and 30-Somethings Face
Tim Westrich, Research Associate for Economic Policy at the Center for Americans Progress, is the author of CAP’s most recent report on credit card lending, “Putting Credit Card Debt on Notice.”
This article was produced by the Campus Progress advocacy team.
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