Consumers Feel the Next Crisis: It's Credit Cards

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First came the mortgage crisis. Now comes the credit card crisis.

After years of flooding Americans with credit card offers and sky-high credit lines, lenders are sharply curtailing both, just as an eroding economy squeezes consumers.

The pullback is affecting even creditworthy consumers and threatens an already beleaguered banking industry with another wave of heavy losses after an era in which it reaped near record gains from the business of easy credit that it helped create.

Lenders wrote off an estimated $21 billion in bad credit card loans in the first half of 2008 as more borrowers defaulted on their payments. With companies laying off tens of thousands of workers, the industry stands to lose at least another $55 billion over the next year and a half, analysts say. Currently, the total losses amount to 5.5 percent of credit card debt outstanding, and could surpass the 7.9 percent level reached after the technology bubble burst in 2001.

"If unemployment continues to increase, credit card net charge-offs could exceed historical norms," Gary L. Crittenden, Citigroup's chief financial officer, said.

Faced with sobering conditions, companies that issue MasterCard, Visa and other cards are rushing to stanch the bleeding, even as options once easily tapped by borrowers to pay off credit card obligations, like home equity lines or the ability to transfer balances to a new card, dry up.

Big lenders -- like American Express, Bank of America, Citigroup and even the retailer Target -- have begun tightening standards for applicants and are culling their portfolios of the riskiest customers. Capital One, another big issuer, for example, has aggressively shut down inactive accounts and reduced customer credit lines by 4.5 percent in the second quarter from the previous period, according to regulatory filings.

Lenders are shunning consumers already in debt and cutting credit limits for existing cardholders, especially those who live in areas ravaged by the housing crisis or who work in troubled industries. In some cases, lenders are even reining in credit lines after monitoring cardholders who shop at the same stores as other risky borrowers or who have mortgages from certain companies.

While such changes protect lenders, some can come back to haunt consumers. The result can be a lower credit score, which forces a borrower to pay higher interest rates and makes it harder to obtain loans. A reduced line of credit can also make it harder for consumers to manage their budgets, because lenders have 30 days to notify their customers, and they often wait to do so after taking action.

The depth of the financial crisis has shocked a credit-hooked nation into rethinking its habits. Many families once content to buy now and pay later are eager to trim their reliance on credit cards. The Treasury Department, which is spending billions of dollars in taxpayer money to clean up an economic mess brought on in part by all sorts of easy credit, recently started an advertising campaign inviting consumers to check into the "Bad Credit Hotel," an online game that teaches the basics of maintaining good credit.

At the same time, the fear factor among lenders has deepened just as the crisis makes it harder for some financially stretched consumers to wean themselves from credit cards for even basic needs, like gas and food.

"We are not going to say, 'Yahoo, this is over,' and extend credit like we did without fear," Jamie Dimon, JPMorgan Chase's chief executive, said in a recent conference call. "If you're not fearful, you're crazy."

Even those with good credit ratings are not excepted. American Express, which traditionally catered to more upscale cardholders, said it would be increasing effective interest rates by 2 or 3 percentage points for some of its credit card holders -- a move that could, for example, push a 15 percent rate up to 18 percent.

"We think it's prudent given the nature of those products and the economic environment we face," Daniel Henry, its chief financial officer, said in a recent conference call.

Some reward programs have also gotten stingier as lenders cut corners to save money. Card companies, for example, have taken to substituting cheaper brands for a Sony big-screen television as a way of lowering the cost of their redemption prizes.

For less creditworthy customers, issuers are pulling back on promotional offers that allowed borrowers to pay no interest for months as they try to get ahead of stiffer lending rules that have been proposed by federal banking regulators and Congress.

The regulations, while beneficial to consumers, will curb profits on card issuers' riskiest customers. JPMorgan said that it was withdrawing some teaser-rate loans that were only marginally profitable. Discover Financial shortened the duration of its zero-balance offers.

And lenders, over all, are slowing the flood of mail offers to a trickle with moves that would translate for the average American household into about 13 fewer pieces of credit card junk mail a year than its peak in 2005. Mail offers to new and existing customers are on pace to drop below 8.4 billion pieces, the lowest level since 2004, according to Mintel Comperemedia, a direct marketing research firm.

Online credit card applications have fallen for the first time in five quarters, in part because customers are receiving fewer mail offers that drive them to the Web, according to data from comScore, an Internet marketing research firm.

"We used to get a couple of offers a week, but I haven't seen a credit card offer in over a year," said Brett Barry, who owns a real estate agency outside Phoenix and described his credit record as strong. "What blows me away is these companies are in the business of extending credit, but they don't want to do it for me."

Mr. Barry said that, without any notice, American Express had reduced the credit limit on his business and personal credit card at least four times in the last year, which he said had lowered his credit score. The moves have also made it difficult for him to manage his payroll and budget, he said.

"Credit card issuers have realized their market is shrinking and that there is no room for extra credit cards, so they have to scale back," said Lisa Hronek, a research analyst at Mintel. "People are completely maxed out with mortgages, home equity lines and credit card debt."

At the same time, credit card profit margins have been narrowing, largely because lenders' own financing costs remain elevated as investors spurn credit card bonds, just as they did mortgages. Another factor is that the interest rates banks charge even creditworthy borrowers have come down after the emergency actions taken by the Federal Reserve to ease the credit crisis.

Meanwhile, bank executives say consumers are starting to curb their spending, to an extent that may become clearer Wednesday when Visa reports its third-quarter results.

In previous downturns, banks could make up the missing profits by raising fees. This time, there may be less room to maneuver.

"The last time credit costs spiked, the late fees were much lower, so card issuers could turn to that and reprice more nimbly," a Morgan Stanley analyst, Betsy Graseck, said. "There is just more scrutiny now, and coming after the subprime mortgage crisis, the world is more sensitive to the way lenders behave."