Credit Basics
Next big worry: Credit cards Delaware jobs might hang in the balance
By ERIC RUTH
The News Journal
For years, when the shopping bug bit, Americans were quick to pull out their credit cards, fulfill their desires and put off the financial pain for another day.
All that is starting to change -- for better and for worse.
As the financial crisis continues to ripple through the nation, economists say another aftershock is beginning to strike, and its impact could prove particularly unsettling for Delaware's credit-card-fueled economy.
Hit by housing woes and gas bills, consumers everywhere are charging less -- and putting off their monthly payments more -- making it harder for credit-card banks to keep profits climbing, and raising the possibility that the state's revenue and work force are in for more painful times.
"People are sitting there watching their retirement funds be cut by a third ... and they're hunkering down again," says Howard Dvorkin, of Consolidated Credit Counseling Services in Fort Lauderdale, Fla.
Before Wall Street's meltdown, credit cards enjoyed an increasingly important role in Americans' lifestyles. Small business owners use cards to keep their cash-flow smooth; consumers have come to rely on them as a seemingly painless means of finding quick gratification and for enduring lean times.
Yet as banks began to teeter, the days of plentiful credit suddenly vanished. Lenders began tightening standards and lowering credit limits. Consumers began seeing higher interest terms and fewer zero-rate offers. Americans began to see credit more for its risks than its potential.
In past years, consumers looking to get out from under credit card debt tapped into home equity, refinancing mortgages to get their hands on cash to pay off their debt. With housing prices plunging, home equity is shrinking and that option is no longer there for many, and banks have become considerably stingier in providing money for a refinanced home loan.
Consumers have started sitting on their cards.
"It seems like they've gotten cautious," said John Stapleford, senior economist with Moody's Economy.com in West Chester, Pa. "And now that they don't have the home equity lines to rely on, they're being more careful with their credit cards."
Delinquencies still at top of list
Local card banks contacted for this story declined to comment on their financial outlook or the possibility of layoffs, but experts believe weak earnings will linger in the short term, and might even pose some long-term challenges to the industry.
"The increase in delinquencies in credit card debt is a major cause for concern," said Robert Dye, senior economist for PNC Financial Services Group in Pittsburgh. "The scale is not as big as the home mortgage problem, but it definitely adds stress to the financial services industry at a time when they don't need any more stress."
Some are even predicting a fundamental change in mindset toward debt, prompting consumers to put off purchases, buy less-expensive substitutes, eat out less, and rethink their propensity to do so on credit. Consumer borrowing fell for the first time in more than a decade in August, the Federal Reserve reported last month. The decline, at an annual rate of 3.7 percent, reflected a sharp drop in the category of borrowing including auto loans and a smaller decline in the category including credit cards.
Last week, the digital-market analysis firm comScore.com, said that credit-card applications at the top 10 online sites dropped for the first time in the past five quarters, dropping 6 percent year-over-year in September. Last year at this time, applications were up 26 percent year-over-year. Consumers are doing all they can to take out additional lines of credit, comScore.com Vice President Jennifer Lanouette said.
Confidence is dropping
In October, confidence among consumers fell by the most on record, signaling spending will continue to weaken. A government report last week showed spending by consumers fell 0.3 percent in September, capping the worst quarter in three decades.
High gasoline prices in particular have helped discourage credit-card use, and even with prices easing in recent weeks, gasoline demand is falling. According to a MasterCard Inc. report, motorists bought an average 8.897 million barrels of gasoline a day in the week ended Oct. 24, down from 9.51 million a year earlier. The decline was the 27th in a row.
As consumers tighten their belts and try to hold on to their jobs, their monthly credit-card bills are being neglected more often. Even before the current chaos, Americans were falling behind on their payments at an alarming rate, a survey by the Associated Press found.
The December analysis of financial data from the country's largest card issuers found that the value of accounts at least 30 days late jumped 26 percent to $17.3 billion in October from a year earlier. That represented more than 4 percent of the total outstanding principal balances. Late payments increased to 5.89 percent at Bank of America, the state's largest credit-card employer, up from 5.53 percent in the quarter ended June 30 and 5.24 percent in the third quarter of 2007.
At the same time, charge-offs -- when lenders essentially give up hope of ever being repaid and write off the debt -- are soaring. Moody's Investors Service, the ratings agency, said Thursday that credit-card charge-offs rose 48 percent in August, and predicted they would rise throughout 2009, eventually surpassing the peak rates seen during past recessions. JPMorgan Chase & Co., which also bases its credit-card operations in Delaware, took $1.11 billion in charge-offs during the third quarter, a 41 percent jump from $785 million during the same quarter a year ago.
Customers who made payments also are paying less of their balances. Moody's said cardholders paid back, on average, 17.4 percent of their outstanding credit card debt in August. In August 2007, customers repaid 20.07 percent of their outstanding balance. It was the 13th consecutive year-over-year decrease.
For August, 6.8 percent of the total outstanding credit card loans industry-wide were simply written off as a loss. One industry analyst predicts that charge-offs will soar to 10 percent next quarter.
The credit card industry's default rates are "all but certain" to surpass post-recession peaks reached in 2003, Moody's Investors Service said in an Oct. 16 report. Unemployment might rise until the fourth quarter of 2009, pushing the default rate to a peak of about 8.5 percent from 6.82 percent in August, Moody's said. Macroeconomic indicators, such as rising unemployment and declining consumer confidence and retail sales, indicate the economy is continuing to weaken, which would likely lead to a further rise in charge-offs, Moody's said.
Moody's said the charge-off rate could rise to 8.5 percent by the end of 2009, above a post-recessionary peak of 7.1 percent in May 2003.
"The uncertainty and tempo of the turmoil will test even the stalwarts' ability to adapt," Moody's said.
The rising charge-off rate is a concern, "but it's not as high yet as it had been in the dot-com recession," Stapleford said. "You look at it and you think. not great, but not as disastrous as many people might think."
Recent gyrations of the broader financial markets also are making times complicated for the credit card banks. Because they rely heavily on short-term loans to keep their lending system flowing, these banks saw their costs rise this autumn when financial-industry angst drove up the key lending rate for those loans -- known as the Libor. Even as the Libor rate stayed high, the prime interest rate -- linked to many credit cards -- stayed low.
That meant there was increasing pressure on the banks to charge their customers lower interest rates, even as the banks were paying higher rates themselves. Known as an "interest-rate spread," that margin for profit is key not only for banks' earnings, but for their ability to borrow the capital that is crucial for keeping their lending system healthy.
In fact, the interest-rate spreads look like they might get so slim that the credit-rating agencies may soon begin "downgrading" the assets that the banks use for collateral on the loans they take. Rising consumer delinquencies also increase pressure for a downgrade of those assets.
As the assets get downgraded, the loans get more expensive for banks to take on, increasing their costs of doing business and upping pressure to trim expenses -- a challenge often tackled through layoffs.
A recent report by the consulting firm Innovest Strategic Value Advisors says that banks are partly to blame for the rise in delinquencies. As credit conditions tighten, banks raise rates, freeze balance transfers and cut lines of credit, putting even greater financial pressure on customers. As an "unintended consequence" of such moves, consumers won't have the ability to roll their debt over, and the issuers will essentially force customers into default," wrote Laura Nishikawa, an Innovest analyst.
In terms of its overall threat to the economy, bad credit card debt is dwarfed by the sub-prime mortgage mess, experts said -- outstanding card debt is over 900 billion, but the total value of outstanding mortgages is $14 trillion. Mortgage charge-offs climbed 822 percent compared with 2007, while credit-cards were up 48 percent.
Yet the credit-card industry's current woes come at a time when the industry here already was on the decline. Since 2001, the finance and insurance sector has seen the second highest employment loss in Delaware. At Delaware's pure credit-card banks, employment dropped from close to 18,000 to 15,800 in the second quarter of 2008.
Earlier last month, Chase Card Services, the Delaware-based credit card operations of JPMorgan Chase & Co., announced it would lay off 140 local workers. At Bank of America, the credit-card division posted a $373 million loss for the most recent quarter, its first since the bank bought MBNA in 2006.
"The difficulty for Delaware is it's a relatively high-paying industry," Stapleford said.
Credit-card bank revenue -- from companies that have a physical presence here and from companies that don't -- is also a crucial piece of state tax revenue.
For consumers, this changing economic landscape might mean a change in a lifestyle that regarded cards as a means to quick gratification. By some estimates, Americans are weighed down by some $900 billion in credit card debt -- an average of $2,200 per household.
The portion of disposable income that families devote to debt hit an all-time high in the second half of last year, topping 14 percent, figures from the Federal Reserve show. When other fixed obligations -- like car lease payments and homeowner's insurance -- are added in, about one of every five household dollars is now claimed by bills.
In the view of some observers, the industry's response to the credit crunch -- raising rates, lowering credit limits -- might ultimately put its own well-being at risk.
"They also have to offer value instead of being the hammer ... because these people are getting hit from every side possible," Dvorkin said. '"They need to be the solution rather than being the problem."
The industry lobbied heavily in 2005 to tighten bankruptcy laws to make it more difficult for consumers to seek court protection and shed responsibility for paying off debt. And some credit-card companies are raising interest rates on good customers even if they pay down their balances, on time, every month. The reason they cite is that the customer's credit rating has fallen elsewhere.
At many banks, not even interest-rate cuts by the Federal Reserve have prompted them to ease pressure on their customers. While many cards come with variable rates, banks often put a "floor" on how far rates can fall -- and even without floors, lenders have been slow to pass along market reductions in interest rates.
Experts said Delaware's card banks surely saw the crunch coming, and have their turnaround strategies under way.
"This should not come as a surprise to the banks that are heavily involved in credit cards, especially given the massive problems we've had on the mortgage side," Dye said.
Credit-card banks will have to fight even harder for customers by using rates, rewards and service as inducement, comScore.com's Lanouette said. For now, the study found, better rates were the top factor that might prompt customers to switch.
For the Delaware banks, there is a sense that executives are well-drilled in handling such challenges.
"They're an awful lot more sophisticated with regards to handling chargeoffs" and working out delinquencies, Stapleford said. Much of the necessary local staff consolidation has already taken place, he added.
"Whether those jobs are going offshore or they're automating, I'm not clear on that," he said. "But they're running relatively lean and mean already in Delaware. It's not like the 1980s where the money was pouring in and they were hiring all these people and something like this could have caught them flatfooted. They're much more prepared for something like this."
On a broader scale, however, card banks feel the uncertainty about the future that's shared throughout the economy.
"It is difficult to look out there and see much beyond 50 feet at this point," Dye said. "Visibility is very low."
