Not charging forward
Editor's note: Roy Persson is director of brand research and strategy, global brand and marketing, at MetLife, New York. This article was written while he was director, competitive tracking services at Ipsos and previously included references to the Mail Monitor direct mail analysis service, which was acquired by Mintel Group Ltd. in 2013 and incorporated into Mintel Comperemedia, a service that provides insights into multichannel marketing strategy.
The world in which credit card issuers live has changed greatly since the Great Recession. Economic pressures have decreased consumer consumption levels, reducing card-based revenues. The U.S. government has levied regulations to protect American consumers and merchants; this has decreased debit business revenues and limited the fee policies of credit cards, increasing pressure on card issuers to cut costs and services. Consumer attitudes, in the face of a slowed economy and deteriorating savings rates, generated more conservative credit card debt management perspectives, particularly amongst Millennials.
The impact of these changes is a decline in revolving credit card balances, leading to a continued decline in interest revenue. Lastly, trends in prepaid cards, loyalty programs, social media and mobile technology have combined to change the face of consumer payments.
Organizational adaptation to social media and mobile technology is not just an opportunity; it is a mandatory requirement for survival in the evolving payments world. Consumers are changing how they think about their banking and payments methods and this has changed the way financial companies are coming to market to meet a variety of consumer needs.
Dramatic shift
The Great Recession triggered a dramatic shift in household spending behavior: real personal consumption expenditures trended down for six quarters, the personal saving rate more than tripled from around 2 percent to over 6 percent and households began a sustained deleveraging of debt process that is ongoing. Beyond consumer consumption woes, the downturn profoundly damaged the labor market, as non-farm payroll employment declined by about 8.5 million jobs from peak to trough. As a result, the U.S. unemployment rate increased from 4.7 percent in November 2007 to a peak of 10.1 percent in October 2009.1
The result was particularly troublesome for credit card issuers; credit card default rates doubled, hitting 8 percent by 2010.2 But behind the obvious economic impacts of limiting a consumer’s ability to both spend and make credit card payments was a tidal wave of shifting attitudes from both consumers and the government. Together these forces would continue to clamp down on credit card profit margins. The U.S. government and American people energetically assigned blame, and big banks were set up to be punished for the Great Recession.
In January 2011, the U.S. Financial Crisis Inquiry Commission concluded that the U.S. financial crisis was indeed avoidable. The Commission’s report also found that key policy makers were ill-prepared for the crisis – slow to respond and lacking a full understanding of the financial system they oversaw.3
In response, Capitol Hill worked to pass a series of financial industry regulatory bills. These laws would bring about the most significant changes to financial regulation in the United States since the regulatory reform that followed the Great Depression. The regulations that greatly impacted the credit and debit card industry fell under the CARD (Card Accountability Responsibility and Disclosure) Act, later leading to additional regulatory controls by the passing of the Dodd–Frank Wall Street Reform and Consumer Protection Act (signed into federal law by President Obama on July 21, 2010)4.
The CARD Act was meant to curb unscrupulous credit card issuer behavior; now, millions of credit card users are protected from retroactive interest rate increases on existing card balances, have more time to pay their monthly bills, receive greater advance notice of changes in credit card terms and have the right to opt out of significant changes in terms on their accounts. Fee and interest revenue generated on credit cards are now more tightly controlled. These revenues were tightened by a few key changes such as credit card payments always reducing highest interest balances first, over-limit fees must now be “opted in,” the removal of double-cycle billing (finance charges must be associated with purchases made in the current cycle rather than going back to the previous billing cycle to calculate interest charges) and one-time late fees being capped at $25.5 The CARD act also makes marketing of credit cards much more transparent, thanks to the use of the Schumer box, which displays all the card terms much like FDA nutrition labeling.
Unfortunately, the result of the CARD Act may not be as rosy as it first seems; restricted revenue sources and increased costs for conducting marketing initiatives leave credit industry analysts to conclude that the credit card reform law has made credit cards somewhat more costly for all users and less accessible for people with low income and bad credit5. Data from Mintel Comperemedia supports these conclusions, revealing increased average annual fees and relatively high APRs, particularly for consumers with less than stellar credit.
First blow
But the CARD Act was just the first regulatory blow delivered in 2009. The Durbin Amendment, part of the Dodd–Frank Wall Street Reform Bill, continued to put pressure on larger U.S. banks. Debit cards surged in popularity, primarily as a check-writing alternative as well as substitute for credit cards among consumers with poor credit. Not surprisingly, when banks started earning significant revenues from debit card swipe fees (interchange fees), the pressures of competition forced them to return much of their gains to consumers in the form of lower fees and better service6.
Over the course of the decade, the value merchants paid for swipe fees increased – not due to interchange fee hikes but instead because of the increase in consumers using debit cards for payments6.
In response to the increased burden to merchants, the Durbin Amendment was passed to regulate debit card swipe fees. The Fed instated a maximum interchange fee of 21 cents plus 5 basis points multiplied by the amount of the transaction per debit card transaction, which CardHub.com estimated would cost large banks $9.4 billion annually7.
The belief that merchants have used these savings to pay back consumers with discounted product pricing still remains hotly contested by industry experts; however, it is widely agreed that the Durbin amendment has pushed banks to make up for lost swipe-fee revenues. In response, banks are finding new ways to monetize checking accounts (only 40 percent of checking accounts were free in 2012), such as maintenance fees, higher out-of-network ATM fees and selling data to retailers. Unfortunately, those who cannot qualify for or want to avoid credit cards will be forced to pay more for checking accounts or resort to high-fee prepaid debit cards8. Yet again, we have another losing proposition for the under-banked consumer.
Consumers also responsible
While American banks’ failure to govern themselves ultimately led to economic turmoil, research shows that consumers were also responsible. Americans have long failed at being financially capable, lacking skills in future planning, choosing financial products and financial decision making. People do not make provisions for unexpected events and emergencies, leaving themselves and the economy exposed to shocks of the sort witnessed in the Great Recession. In terms of debt management, Americans engage in behaviors that can generate large expenses, such as sizable interest payments and fees. The most worrisome finding is that many people do not seem well informed and knowledgeable about their terms of borrowing9.
In a twist of irony, the recession may have proved to be the learning experience Americans needed to change their financial attitudes. As a result of “tough times” and reduced savings rates (nearly 0 percent) consumers have turned not to foolish spending but to better debt-management behavior. More Americans in 2011 were debt-free than in comparison to the year 2000. The percentage of U.S. households carrying any debt dropped to 69 percent in 2011 from 74 percent in 200010. In addition a growing share of a consumer’s disposable income is being diverted to service credit card debt11.
As if current social viewpoints towards credit card debt weren’t troubling enough for the credit card industry, the future consumers appear to be even more skeptical. Millennials are making their debut as young adult consumers in today’s marketplace. This generation, which ranges in age from 18 to 34, has been raised during two of the most tumultuous economic events in American history: the early 2000 stock market crash and the Great Recession. As a result their views on money management are a bit more conservative than those of most Americans. Two-thirds of them save the cash left over from their paychecks and 18 percent use excess cash to pay off debt. Also the topic of debt among Millennials is a sensitive one as most of their debt stems from credit cards issued prior to the CARD Act and student loans.
About half of them have student loan debt which averages $37,100 and 45 percent of them have credit card debt that on average totals $5,448. Also, according to a public affairs study at Ipsos, a growing number of young adults say they are reluctant to apply for and use credit cards. Given these statistics and their exposure to economic turmoil in their adult life it’s no surprise that they are skeptical about traditional bank offerings – another social trend which will stymie credit card revenue growth in years to come12.
Loyalty programs another threat
Another threat to the credit card industry can be found in loyalty programs. Although loyalty programs have been around for quite some time, consumer enthusiasm to embrace them has not receded but rather has rapidly grown over recent years. Doubling in size since 2000, the number of U.S. loyalty programs reached two billion in 2011. Retailers continue to pour on the investment, spending $50 billion a year on loyalty programs. And the return, according to consultant company McKinsey, is well worth it, boosting profits by 20 percent when executed properly13.
This proliferation of loyalty programs reflects a changing market environment that is increasingly characterized by intense competition and consumers demanding compensation for their loyalty14. What is daunting about these loyalty programs is how they can eventually cut credit card interaction directly out of the equation. For example retailer Target issues its Red Card, which is either a debit or credit card (per customer choice) loyalty program hybrid. This card provides consumers with both a form of payment as well as a loyalty scheme generating up to 5 percent in discounts and free shipping on Target.com.
Placed enormous pressure
Economic, political and social changes have placed enormous pressure on credit card organizations to think strategically about how to generate a profitable payments service business. Interestingly, technological advances which have been ramping up, especially in the mobile space, have provided the credit card industry with equal amounts of opportunity and threat. For example many businesses are discovering that social media campaigns, commonly accessed via mobile devices, are essential components of their digital strategy; and credit card companies are especially motivated to execute on social platforms.
Over the last three years, increased regulation on direct marketing has forced U.S. credit card companies to reconfigure their marketing tactics. These companies are now growing increasingly prevalent in the social and mobile communication sphere, where reward and loyalty programs are catching on, particularly with social gaming venues15. While social media has provided cheaper marketing alternatives (versus traditional direct marketing) other forms of technology advances may have opened a Pandora’s Box of credit card industry change.
Your mobile wallet
The next battleground where credit card giants will scuffle will still be found in your pocket; interestingly it’s not your physical wallet but rather your mobile one. The mobile payments market is set to explode, according to Juniper Research, which predicts it will reach $670 billion by 2015. The most popular method of mobile payment is the point-of-sale technology such as Google Wallet and Isis, used to collect various modes of payment to a consolidated mobile application.
Another critical development is in near-field communications (NFC) technology, allowing electronic devices to establish radio communications, which is just one of many ways mobile devices (and even credit cards) can take advantage of mobile payment technology16. While some mobile phone technologies provide a mixture of opportunity and threat, some technology advances bring nothing but dilemma for the credit card industry. Two forms of mobile technology meet this definition; peer-to-peer mobile payments such as PayPal mobile and direct-carrier mobile payments like Boku. Both peer-to-peer and direct-carrier technologies will completely remove credit card interaction from the equation16.
It’s worth noting that even while point-of-sale and NFC technologies can be combined to bring digital interaction and remove the age-old physical swipe (further entrenching credit cards into our daily lives), they can also be used to proliferate the use of the ever more popular loyalty programs. The result brings loyalty programs, debit cards, credit cards and prepaid debit cards into the same mobile phone, creating a competitive landscape with a variety of new players. An example of a new mobile competitor, which is already executing successfully on its closed-loop mobile strategy, is Starbucks, which has nine million mobile application users, who are generating 10 percent of its transaction volume (which is now free of swipe fees!)17.
Looking forward, a variety of factors will change the way that consumers pay for their purchases. One factor is the availability of NFC-enabled mobile phones; it is believed that one in five smartphones already have NFC-enabled technology18. The availability of these types of smartphones is said to trigger a 4,800 percent rise in mobile commerce by 2015, up to $119 billion. Eventually mobile payments will overtake traditional credit card payments by 2020 and NFC-enabled phones alone are predicted to displace cash transactions by 201619.
Another driving force is how both the under-banked and the Millennials come together with mobile payment technology. It is estimated that 15 percent of the U.S. population is under-banked, displaced by a turbulent economy and financial regulations, and reportedly they are much more likely to use their mobile devices and/or prepaid debit cards for payments19. In addition, younger generations of Americans are quickly embracing prepaid cards and mobile payment technologies; 39 percent of Millennials already claim to have used their mobile phone to make a payment20. As a result, the growth of mobile commerce means that mobile payments will eventually go mainstream. It’s widely understood that it has the full potential to replace cash, check and/or credit card transactions21.
Think carefully
It’s clear that credit card issuers must think about their business in tiered levels – affluent, mass-market and under-banked – each of which requires a specific product offering. This strategy is not only more profitable but mitigates unnecessary credit risks. In addition, credit card issuers will need to think carefully about how to bring credit cards to the mobile wallet with innovation that can rival loyalty rewards programs.
The future is not a dark one; the data which will be received by the use of mobile wallets and apps will be far more rich than previous consumer transaction data. From this information credit card issuers will be positioned to think about manners of bringing customized and tailored services to new segments of their business, especially the Millennial generation.
References
1 Lansing, Kevin J. “Gauging the Impact of the Great Recession.” Federal Bank of San Francisco, July 11, 2011. Web. April 24, 2013.
2 Norris, Floyd. “Default rates easing, except on credit cards.” The New York Times, May 21, 2010. Web. April 17, 2013.
3 FDIC, The Financial Crisis Inquiry Report, (Pursuant to Public Law 111-21) U.S. Government Printing Office. January 2011.
4 Lowrey, Annie. “Obama to sign Dodd–Frank Financial Regulatory Reform Bill into law today.” The Washington Independent, Wednesday, July 21, 2010. Web. April 17, 2013.
5 Prater, Connie. “What the credit card reform law means to you.” Credit Cards.com, June 13, 2012. Web. April 17, 2013.
6 Evans, David S., Litan, Robert E. and Schmalensee, Richard. “The net effects of the proposed Durbin fee reductions on consumers and small businesses.” Pymts.com, February 2011. Web. April 17, 2013.
7 [No Author Stated] “Interchange Study.” Cardhub.com, [No Date Stated]. Web. April 24, 2013.
8 Chen, Tim. “What the Durbin Amendment means for you.” U.S. News, July 12, 2011. Web. April 19, 2013.
9 Dubner, Stephen J. ”Americans’ financial capability.” Freakonomics.com, June 7, 2011. Web. April 19, 2013.
10 Mullaney, Tim. “More Americans debt-free, but the rest owe more.” USA Today, March 21, 2013. Web. April 17, 2013.
11 Federal Reserve Consumer Credit Card Debt, Consumer Credit - G.19. May 7, 2013.
12 Dugas, Christine. “Millennials are tech savvy, tightfisted savers.” USA Today, April 24, 2013. Web. April 3, 2013.
13 Shaukat, Tariq and Auerbach, Phil. “Loyalty: is it really working for you?” McKinsey & Company, December 2011.
14 Liu, Yuping and Yang, Rong. “Competing loyalty programs: impact of market saturation, market share, and category expandability” Journal of Marketing, January 2009.
15 Wexler, Scott. “Swiping goes social.” Veterans United, [No Date Stated]. Web. April 3, 2013
16 Hardawar, Devindra. “Mobile payments for dummies.” Venture Beat. September 7, 2011. Web. April 10, 2013.
17 Calderon, Arielle. “Starbucks expands mobile, loyalty program.” Mobile Payments Today. March 21, 2013. Web. April 3, 2013.
18 Sokolow, Emily. “Mobile payments are the new credit card.” WIX Mobile. July 20, 2011. Web. April 10, 2013.
19 [No Author Stated] “Prepaid Expo.” Prepaid Expo Blog. June 27, 2012. Web. April 10, 2013.
20 Ciccone, Alicia. “Mobile payments expected to surge.” Huffington Post. May 10, 2012. Web. April 10, 2013.
21 [No Author Stated] “The value of mobile payments.” Cashlog. [No Date Stated]. Web. April 07, 2013.