10 reasons why credit card rates must not be raised

These same reasons mean the rates should be lowered instead

There is no doubt some concern that the level of household debt in Malaysia is rising. This covers not just credit cards but also housing, car and personal loan as well.

Bank Negara has taken measures to stop the rise in household debt, which stood at RM580bil as at end-2010 or 76% of gross domestic product (GDP total economic output). Credit card debt, however, forms only about 5% of this or some RM30bil.

Credit extended by the banks to credit cards is, however, much higher at RM124bil which means that most of us are not taking the bait and borrowing on credit cards because interest rates on credit cards are so prohibitively high.

Credit card operations are phenomenally profitable for banks with a gross lending margin after full provision for possible bad loans of 12.5 percentage points, more than six times the margin for new property loans of around two percentage points.

Now, they have been raised by up to 1.5 percentage points for some categories or up to 18% a year, a totally unwarranted increase that needlessly burdens those desperate enough to live on credit card debt. Well, one must suppose that it's still better than depending on Ah Longs and their 100% a year I jest of course.

Below are 10 reasons why credit card interest rates should not be raised. In fact, the reasons indicate a clear need to bring down drastically credit card interest rates.

1. Interest rates are already too high 17.5%. Effective March 1, banks have increased credit card interest rates by up to 1.5 percentage points with the new range between 15% and 18% a year depending on your payment record. Bank Negara said it did not direct the banks to raise the rates but they are within acceptable limits.

2. Average commercial bank lending rate is low 5%. That 15% to 18% is more than three times, yes three times or 300% more than the average lending rate of commercial banks of just over 5%. What justifies such a premium? Nothing as the rest of the reasons will show.

3. Deposit rates are low, average 2% perhaps. The average cost of funds of banks is not easily available because of the mix of their deposits. But fixed deposits are below 3%, savings deposits around 1% and current accounts are mostly zero interest rate or negligible. That would mean the average cost of funds for banks is probably as low as 2%. If average credit card debt is 16.5% a year (average of 15 and 18), that gives banks a massive 14.5% margin a year on credit card debt! Yes, I hear the banks say that credit card debt is high-risk but is it? Which brings us to our next point.

4. The non-performing loan rate for credit cards is low, a mere 1.7%. In a briefing last year, Bank Negara deputy governor Nor Shamsiah Mohd Yunus said: “Although credit card usage continues to increase, the non-performing loan ratio remains low. As at end 2010, credit card non-performing loans were only 1.7% of total credit card loans and 2% of the total banking system's non-performing loans.” After accounting for non-performing loans, those which have not been serviced in time but have not been classified as bad, the margin is still 12.8% compared with perhaps 2% for new property loans.

5. Late penalties are already prohibitive - up to 3650%. The minimum charge on late payments is RM10 or 1% of the outstanding amount whichever is larger, doubled from 0.5% previously even if you have not exceeded your credit limit. Let's say you have an outstanding balance of RM100 and you did not service that balance and you were a day late. You incurred 10% a day (RM10 as a percentage of 100) or 3,650% a year on the balance! If you had RM10,000 as balance, your interest rate if you are a day late would still be a hefty 365% a year even though you have not exceeded your credit limit. These charges are over and above the already high interest rates and significantly add to the gross margin of banks because people being people pay late.

6. Most banks charge yearly fees. These range from RM60 to RM600 and further increase the margins of banks. There are some eight million cards in circulation, including some 900,000 supplementary cards. If the average amount charged per card is RM100, that means RM800mil to card issuers.

7. Banks get payment from traders. Adding to bank gross margins is the fact that traders who accept credit cards pay up to 2% in commission. This is on the amounts transacted which are many times more than credit card debt and add significantly to bank profits from credit card operations.

8. It will not solve household debt problem. Increasing credit card interest rates does not solve the household debt problem because credit card debts are just 5% of this. But it allows banks to increase rates when neither the cost of funds nor non-performing loan figures justify this on the pretext that it does.

9. It will needlessly burden those in trouble. Most people who utilise credit card debt know that it costs a lot. They use it in many cases because they don't have a choice. When banks already have such a large margin for credit card debt, further increasing interest rates will only burden those in trouble and do nothing for them. Banks have already built in a huge margin for credit risk here and they should not increase rates further even if bad loans increased which they have not.

10. It will only increase profits of banks and card issuers. Credit card debt is not increasing at a rapid rate. Over the past year, it has increased just 7%, less than overall loan growth of 12.5% last year. Increasing credit card interest rates merely increases the profits of banks and card issuers and does nothing significant in terms of restructuring lending profiles for the better.

Credit card operations are phenomenally profitable for banks with a gross lending margin after full provision for possible bad loans of 12.5 percentage points, more than six times the margin for new property loans of around two percentage points.

The longer-term aim should be to bring the margin down, not up. Based on that 12.5% margin, the gross take for the banks on RM30bil in loans is a massive RM3.75bil, before taking into account other sources of income such as late penalty charges, trader commissions, yearly fees, merchandising and commission on foreign exchange. You would need RM190bil in new property loans to rake in that amount.

It is impossible to understand why the authorities allow banks to make such high profits on credit card operations.

Adapted: Star online