The national average interest rate on a savings account is a depressing .06 percent. For buyers with good credit, it’s possible to find a home loan for less than 4 percent. So why, given these low rates, are banks charging us a whopping 16.15 percent on average for new credit cards?
The short answer: Credit card issuers charge as much as they can in order to be as profitable as possible.
A more complete answer is that banks charge interest based on the perceived risk of lending money. The higher the likelihood a borrower can’t cover his debt, the higher the interest rate goes to help offset the cost of unpaid bills. Lending money through credit cards is riskier than for mortgages, for example. After all, if you fail to cover your house payment, the bank can take your home. This is called a “secured” loan because it’s backed by valuable collateral.
But when someone can’t pay a credit card bill, there are no assets to seize. That’s called an “unsecured” loan. And credit card delinquency is on the rise—from 1.50 percent in 2016’s first quarter to 1.69 percent in 2017’s first quarter—thanks, in part, to creditors issuing more cards to consumers with poor credit. In fact, the Federal Reserve ran a stress test this year that found that, if the economy took a sharp turn for the worse, some 13.7 percent of credit card debt would go into default.
Are rates going to keep going up?
Most likely. Credit card rates move with the federal funds rate. Each time the Federal Reserve (the country’s central bank) increases that rate, interest on variable-rate cards jumps, too. A quarter-point increase costs about $2.50 for each $1,000 borrowed every year. That doesn’t sound like much, but it adds up.
Rates can spike at other times, too. If your payment is 60 days late, for example, the bank can bump you up to a penalty rate of around 30 percent. Your rate could also jump after a promotional offer expires, after you’ve had a card more than a year or if your credit score drops. Fortunately, in each of these cases, you must receive a warning—which gives you an opportunity to stop using the card.
Is there anything I can do about it?
The good news is that even though rates are going up, card issuers are still aggressively trying to acquire new customers—meaning you should shop around to find the best deals.
But keep in mind that, while cheap balance-transfer and sign-up offers can be tempting, they rarely solve the fundamental problem behind excessive credit card debt. Unless you change your spending habits or increase your income, you'll end up looking for another rescue offer later. What’s more, opening new credit cards can hurt your score (at least in the short term). So while it’s smart to research what’s available, most people shouldn’t make opening new accounts a regular habit.
What’s always a good idea? Calling your credit card company and bargaining with them to score a lower rate on your current card, then setting up a solid plan to pay off your debt. Do this before you’re socked with a higher rate—and you fork over more money to something that doesn’t move you closer to your goals.
November 16, 2017