I got a letter through the post. Apparently it came from BT, although actually the credit card it offers is provided by MBNA Bank Europe Ltd, and only branded BT. Straight off the bat, that annoys me. At every possible opportunity, I always tick the box to say that I don’t want to ‘from time to time receive information about special offers from our carefully selected business partners.’ I’ve certainly told BT this, but because, technically, the credit card offer is offered by a ‘partnership’ between MBNA and BT, it’s not covered – BT don’t seem to give you the option of opting out of their own marketing material.
That’s not what really gets me, though. What gets me is the fact that they’re trying to encourage people to take on debt, in what seems to me like a hugely irresponsible way.
The ‘unique selling point’ of this credit card is that, instead of reward points or something similar, the incentive to make you sign up is that you get money off your phone bill. They go big time on the advantages of this – they tell you about it in the letter, in a handy little reference table next to the application form, and again on a glossy card printout. The table looks quite appealing – it shows that you could save up to £75 a year, or £150 a year if two people from the same household take out two separate credit card accounts. That looks like a lot of money. I pay about £230 a year on my phone bill, so £150 off (I’m assuming in this particular scenario that I have a partner – well, it’s no more unlikely than me passing a credit check…) would mean a saving of about 65%.
It looks less appealing if you actually pay attention to the details of the information in the rest of the table, but they try to make paying attention difficult. In order to get the maximum £75 discount, you have to spend £750 a month on your credit card. Those figures are carefully chosen – a part of your brain instantly thinks, wow, I’m getting 10% back. But, of course, you’re not. The discount is the annual figure, while the spending amount is the monthly figure. In order to save £75, you actually have to spend £9000. In percentage terms, that means anyone who went for this deal would actually be getting just 0.83% of their money back.
The advertised typical APR on the card is 16.9%. I know the actual calculations are nothing like this simple (I’ve assumed the £9000 arrives all in a lump, when in reality it accumulates slowly over the year, and I also haven’t made allowance for any repayment of the outstanding balance each month), but as a very rough and ready rule of thumb, a balance of £9000 will cost £1521 in interest. The current LIBOR figure* (which is, again very roughly, what MBNA would pay to borrow the money from another bank) is 2.5%. This means the same £9000 borrowing only costs MBNA £225. Adding the £75 phone bill discount on top, that means the total cost to MBNA is £300, which means they are making a profit of £1221. Taking account of the vagueness of my sums, and the other costs they will encounter, lets call it a profit of around about £1000.
This is, of course, basically money for nothing – all a credit card company does is act as a conduit for money, transferring it from the London inter-bank markets to a private individual. Once upon a time, the credit card companies could have argued that their profits reflect the risk they are taking. Credit cards are unsecured borrowing, and if one of their customers defaults, they have to take the cost of that out of their profits. But that was before the banking market changed so fundamentally.
Now we all realise that what most banks and other financial institutions actually do is take the profits and distribute the bulk of them to their shareholders in the form of dividends, and then, when their customers start to default on their loans, go running to government authorities for state help. MBNA is owned by Bank of America, so in this case UK taxpayers won’t end up solely responsible for any bad debt generated by this marketing campaign – US taxpayers are also at risk. I’m sure auto-industry workers in Michigan, already struggling to make ends meet on reduced working hours, will be thrilled to know that their money is being siphoned off, not to pay for, let’s say, a comprehensive healthcare system, but so that British people can enjoy discounts on their phone bills.
I said in that last paragraph that this advertising campaign will generate bad debt. I have no reason whatsoever to think that MBNA would be any more likely to attract bad debt than any other credit card company. To a certain extent, in any case, bad debt is inevitable – a proportion of customers will always prove to be unable to meet their financial commitments, and that proportion will inevitably increase in a recession, when more people are at risk of losing their jobs. But it’s not just that.
In addition to the 12 months 0% on balance transfers (which is a pretty standard feature of credit card deals these days), this deal also offers 12 months at 0% on ‘cash transferred to your current account.’ Now, I wonder, what kind of people are going to be attracted by an offer of (temporarily) interest-free money paid into their current account? Well, some of them may be perfectly responsible, of course. But isn’t it fairly likely that a fair few of them will be people who’ve overspent at christmas, and now have a big unauthorised overdraft on their current accounts? Or people who’ve found for whatever reason that they don’t have the money to make the mortgage payment this month?**
Some of these people may also be perfectly responsible – they may exercise an iron restraint over the year, and use the interest-free offer as a one-off method of getting their finances back on track. But an offer like this will also appeal to people whose financial predicament is far worse, or to people who will persuade themselves at the beginning that this is going to be the moment at which they turn over a new leaf, but will ultimately end up not making the new start. And, because this is a credit card, rather than a structured and limited form of credit like a personal loan, it’ll be child’s play to run up even more debt. In fact, MBNA are offering a specific inducement to people to do so – the more you spend, the more you ‘save’ on your phone bill, after all.
The concern about companies encouraging people to take on debt they can’t afford used to be fairly one-dimensional. It could have a devastating effect on the people concerned, of course – there have been more than a few cases of people committing suicide because they couldn’t see a way out of their financial difficulties – but the effects only had a limited range. That’s not true any more. The consequences of the sub-prime crisis in America proved that, when the stability of banks is measured not by how big their cash reserves are but by how risky their debts are, lending money to people who might not be able to pay it back is a really bad idea. It brought the world financial system to the brink of collapse, and it’s triggered a global recession.
Credit card companies are not, I’m sure, sub-prime lenders, as such (I don’t think there are many left anymore). I’m sure they have a scrupulous application process, and that they do everything they can reasonably be expected to do to make sure that they only lend to people who can afford the repayments. But in the present climate, lending to anyone is a risk. Major companies have gone bust, and plenty of economists are forecasting that more are likely to follow. Even companies that are not under immediate threat of collapse are shedding jobs. The person who has a well-paid job and an exemplary credit history today may well be unemployed and a bad credit risk tomorrow.
Under these circumstances, it seems to me that it’s irresponsible to the point of idiocy to encourage people to take on more debt, especially ‘open-ended’ debt like credit cards. Given the record amount of consumer debt that exists in the UK at the moment, it must be the case that every credit card company has plenty of existing customers, and that lots of these will have large balances on their credit cards. It ought to be perfectly possible for credit card lenders to sit-out the recession with their existing customer base, generating an income from the repayments made by people who already owe money, but not offering new or extended credit.
It’s hard to escape the conclusion that, in the present climate, lenders are only able to justify the risk of new lending because recent events have taught them that, if they encounter a significant problem with bad debt, state authorities will step in and bail them out. (I think this is what economists mean when they talk about ‘creating a moral hazard.’) On one level, this is obviously unfair – lenders can enjoy the short-term profits that result from a relaxed approach to lending without having to worry about the long-term risks, while tax-payers, on the other hand, carry all of the risk in return for none of the profits. But there’s also, it seems to me, a more fundamental concern.
Most people would, I think, agree that irresponsible lending was a fundamental cause of the problems we’re currently experiencing. It was the decision to lend money to people who had very little chance of ever paying it back that has led to the situation we now find ourselves in, with hundreds of thousands of people losing their jobs, and millions more struggling to get by. Against this background, credit card companies encouraging people to take on new debt doesn’t just seem like a bad idea for the people concerned, it seems like a bad idea for the global economy. It seems to me that it increases the likelihood that the banking system will be seen as unstable for longer, and until those problems are resolved, I really can’t see how the recession will bottom out.
* – The figure is the one quoted when I checked the link at 1345 on the 8th of January. It seems to change fairly frequently.
** – Actually, I’ve just looked at the small print, and it turns out that the balance and cash transfers aren’t even free. Both of them carry a 3% ‘handling fee,’ which is a lot like a 3% annual interest rate, except it’s all taken up-front, so you have no chance of reducing what you pay by reducing the balance owed. I guess ‘discounted APR with extra strings attached for 12 months’ wouldn’t have looked as attractive in the headline figures, although it might have seemed more accurate.