Nobody should ever pay a 25% interest rate to a credit-card issuer.
With that said, the understandable urge to pass a law capping what banks can charge could hurt the very people it’s meant to help, and cause other problems that may ravage people’s finances even worse.
On Thursday, Democrats Bernie Sanders and Alexandria Ocasio-Cortez introduced new legislation that would cap credit-card interest rates at 15%, and require the U.S. Postal Service to offer basic banking services for those who can’t afford a traditional bank.
The bill addresses legitimate problems. Millions of Americans are “unbanked” or “underbanked,” with limited access to modern financial tools that help people get ahead. And high rates often charged to low-income borrowers can lock in an unbreakable cycle of debt and poverty.
Solutions aren’t as obvious as they seem, however. Banks would lose revenue if there were a federal cap on card interest rates, which is why they oppose such a move. Don’t cry for them.
Banks would be fine, but they’d make other adjustments that the New York City congresswoman and Vermont senator may not be anticipating. Banks set rates according to the riskiness of the borrower — and if 15% were the most they could charge for what are basically loans via credit card, they’d curtail borrowing limits. It could result in credit to fewer people.
Some consumers with weak credit might not even be able to get a card —even if they paid off the balance each month and never paid interest. Fees might also rise just for having a card. And people who do get cards might try to borrow more via plastic, if rates were lower and it cost them less (another wrong incentive).
So unintended consequences of a cap would include less access to credit for some and more credit-card debt, at a slightly less onerous rate, for others.
People run up costly credit-card balances for a couple reasons. Some people are just uninformed or undisciplined consumers. The best solution there is consumer education, along with new tools like financial-planning apps that can help people manage money, and send alerts when spending levels are too high.
Others rely on credit cards because they simply lack the cash to buy basics when they need them, which is a tougher problem.
As bad as credit-card debt is, it’s better than borrowing from a payday lender or illicit loan shark. The core solutions here are improved financial literacy, better skills and stronger earning power for the most vulnerable consumers. None of those are a quick fix.
That speaks to the second part of the Sander-AOC plan, which is postal banking. The postal service has outlets in most American communities, and it already cashes government-issued checks. So why not expand that to basic financial services? Other countries do, including France, the U.K., Germany, Japan and South Korea.
This could work, but only if done carefully. It’s possible for the postal service to offer savings and checking accounts, debit cards, ATMs for cash withdrawal and other basic services that entail little risk. There are legitimate questions about whether an agency backed by the federal government should compete for customers with private-sector banks. But it would be possible to tailor a menu of postal financial services so narrowly that there’d be little overlap.
The legislative proposal would go further, requiring the postal service to offer low-interest loans— and this is where the problem begins.
Anybody making a loan faces a risk of not getting their money back, which is why banks do extensive research to establish creditworthiness standards. That’s a core expertise of banking. Riskier borrowers pay higher interest rates, because it’s more likely they’ll default on a loan.
People banking with the postal service, instead of an established bank, would probably be risker borrowers, by nature. So “low interest” loans that aren’t priced to account for the risk of default would have to be subsidized by taxpayers (or by somebody).
Washington did this in the past with housing, and it contributed to the gigantic housing bust that caused the Great Recession of 2009. The postal service is already a chronic money-loser, and that problem could get dramatically worse if it started making loans.
Credit used to be something Americans used sparingly, for a major investment like a home—if they could get it at all. By contrast, credit cards are a modern innovation that enticed everybody to spend more, and worry about paying for it later.
That now seems to have created an expectation that everybody is entitled to credit— even if you might not be able to pay back what you borrow. Maybe we should rethink that.
Rick Newman is the author of four books, including “Rebounders: How Winners Pivot from Setback to Success.” Follow him on Twitter: @rickjnewman