Current Issues and Rising Concerns Credit Card Debt. Claire Gutzewitz and Rob Lawson, University of Otago. Abstract

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1 Current Issues and Rising Concerns Credit Card Debt Claire Gutzewitz and Rob Lawson, University of Otago Abstract Levels of credit card debt are reported for six countries in order to demonstrate a growing crisis for consumers and many potential businesses. Preferences for using credit cards and other payment methods are examined against compulsive consumption using Faber and O Guinn s diagnostic scale. Introduction Recent years have seen a significant decline in the proportion of income devoted to savings in many countries throughout the world, with countries such as Australia and Denmark showing actual negative savings rates over many of the last ten years (OECD 2004). Accompanying this decline in savings has been a rise in household debt and one of the fastest rising sources of debt are credit cards. Credit and debit cards have become the most common form of payment for goods in many countries around the world leading to one of the most problematic issues in consumption consumer debt. By using a credit card it is argued the consumer removes themselves from the transaction, for they are not technically handing over any money. Credit card transactions are seen as painless (Soman, 2001; Soman, 2003; Tokunga, 1993), and therefore consumers around the world are accumulating huge amounts of debt. Part of this is also due to the fact that credit is being given to those that cannot afford it. People are increasingly living beyond their means and only repaying the minimum each month while they continue to add more transactions to the card (Chatzky, 1998; Soman and Cheema, 2002; Vickers, 1999) Credit card expenditure and debt are seen as growing issues attracting the attention of activists and lobbyists who have accused banks and financial institutions of irresponsible marketing in promoting and recruiting customers who cannot afford to service large levels of debt (Chatsky 1998). At a more general level credit cards are also seen by some as one of the mechanisms that is facilitating the growth of an unsustainable trend in consumption (Green Party 2005). Their use has undoubtedly also been promoted by the development of the internet as a prime means for shopping but in light of the concern over consumer debt and its personal consequences, it seems timely to review what we know about consumers attitudes to, and use of, credit cards. The purpose of the paper is to draw attention to credit card debt as a social marketing concern and then examine the consumer behaviour literature on credit card usage, in particular proposed links with compulsive consumption. We draw upon national data from six available countries as illustrative of the issue with credit card debt. These countries are mainly from the developed world but they do reflect different histories of national histories of credit usage and also different degrees of control on credit card access. We also examine the literature on credit cards from a consumer behaviour perspective and then report empirical findings related to this literature from a national study of consumer lifestyles in New Zealand that included preferences for different payment options including the use of credit cards. 1

2 Credit Card Debt Table 1 reports credit card figures for six countries assembled from a variety of sources. All figures are in local currencies. The ease of access to credit cards is taken from assessments found in the sources as opposed to the authors own judgements, therefore exact comparisons are difficult. The term 'credit criteria' implies the application of a formal credit assessment by the card company along the normal lines for borrowing in the country. While there are many points of interest in table 1, perhaps the most astounding figures in the table are those for South Korea where credit card holdings were minimal until the end of the 1990s but credit cards are now ubiquitous and debt levels have caught up and surpassed many other countries. This shows that credit is not only an issue in western countries, but it is also becoming a growing challenge in European and Asian countries where their cultural views on saving and debt are rapidly changing (Master Class, 2003; McKay, 2004). A recent World Bank report estimates that, at 24%, the default rate on credit cards in South Korea is the highest in the world and approximately three times that on other personal borrowing from financial institutions in the country (Miller, 2005). New Zealand is more typical of the growth in credit card debt where it has risen from NZ$1.5 billion dollars in 1996 to NZ$3.6 billion dollars in The exception in all these countries seems to be France but two issues need noting here. Firstly, like some other European countries such as Germany, there are many more debit cards than credit cards which are not included in the recorded figures. Secondly, the French report far less information for credit ratings than most other countries and appear to have different practices in writing off debt from personal rating assessments e.g. debt over five years old is not recorded (Miller, 2005). Table 1: Country Credit Card Debt Comparisons NZ Aust. US UK S. Korea France Credit/Debit Debt NZ$3.6 b AUS$30.6 b US$1.7 t 200 b KOR$100 b FR 500 m Population 4.1mil 20.4 mil 295 mil 60.4 mil 48.4 mil 60.6 mil Debt per person $1028 (over 16) Interest levels Up to 20% (11.5 the average) $2000 (over 16) Up to 26 % $8,562 3,300 $ % 6-15% Up to 25% 11-14% Easy to get a C.C? Credit Criteria Credit Criteria Yes 78% of Credit Criteria Govt. & Strict the pop are Credit Criteria regulations creditable becoming lenient N.B. Debt levels are shown in each country s own currency. (Sources: Ask Yahoo, 2004; BBC News, 2004; Bennett, 2005; McKay, 2004; Master Class, 2003; Reserve Bank of NZ, 2005; The World Bank, 2005) In countries such as Australia and New Zealand governments are starting to look into the maladministration of credit cards (Bennett, 2005). It is argued that credit criteria have become so lenient that credit is being extended to many that cannot afford it (Black and Morgan, 1999; Chatzky, 1998; Vickers, 1999). The internet allows people to secure credit cards from many different sources and there are many on-line, and other, companies that target further lending to people already heavily in debt. A Google search on credit cards will bring hundreds of sites forward advertising with slogans such as Do you have bad credit then. Interestingly one such site Forbadcredit.com accessed on 1 st November

3 leads people in Australia and New Zealand directly to one of the major international trading banks as the first chosen site. As large as these figures appear they become really striking when the debt per person is compared with per capita GDP. OECD figures for 2004 for the latter reveal that in the US credit card debt now equals almost 25% of GDP per capita, while New Zealand, Korea and Australia are all over 10% and the UK around 16%. Clearly debt at these types of levels will be difficult to sustain for many consumers and raises serious issues regarding the social responsibility of some financial institutions and other providers who are willing to engage consumers in this level of debt. Research on the profiles of credit card borrowers reveals some recent interesting changes in the market place. A number of studies (Black and Morgan, 1999; Chatzky, 1998; Tokunaga, 1993; Vickers, 1999) reveal that this rise in debt is due to the extension of credit to many people who find it much more difficult to pay the money back. Credit card users are younger, are more likely to work in a blue collar job and are willing to extend their credit limits as well as take more risks when it comes to money (Black and Morgan, 1999). They also state that even a small decrease in income can cause large amounts of stress involved with debt. Tokunaga (1993) claims there are two heavy groups of credit card users. The heaviest credit card users are younger, have a large income, have professional occupations, are more fashion conscious and view risk favourably, but they are not the ones that have the largest levels of debt. Due to their large income they may be more likely to pay their cards off, whereas the second group parallel Black and Morgan s (1999) view, that credit card users are less educated, employed in unskilled jobs, rent their home and have little to no financial security. They use their cards as a means to an end, for without it, it may not be possible to make ends meet (Tokunaga, 1993). The new borrowers include students, those with little or no income and a large portion of people who are living in a low socioeconomic bracket (Chatzky, 1998; Tokunaga, 1993; Vickers, 1999). Vickers (1999) states that students, with no credit history and no income, are being handed credit cards easily. The banks hope to begin a relationship with them at a young age so they will continue to use that bank once they are earning. These consumers are not only likely to spend more, but also tend to forget about transactions and hence, the amount of debt they are carrying (Prelec and Simester, 2001). They use their cards for small, unmemorable transactions that Vickers (1999) believes should be paid for with cash. Human rights issues have also arisen in the area of extending credit to those that cannot afford it. Credit Cards and Purchasing Behaviour Established work in this area looks at two broad but related aspects how credit cards affect the pain of payment and how they might work as an actual stimulant to purchasing. The concept of the pain of paying is found in much of the literature that focuses on the use of credit cards (Hirschman, 1979; Soman, 2001; Soman, 2003; Tokunga, 1993). This concept looks at the level of discomfort that a consumer feels when they are paying for purchases and how this discomfort is not present to the same level when paying by credit card. Soman (2003) identifies three levels of payment transparency that are related to the pain of paying. He states that forms of payment can have high, medium or low transparency. Cash has the highest level of transparency for consumers can see how much money they are spending outright. Payments such as cheque have medium transparency for the consumer can see the money they are spending because they physically have to write out the amount, but these transactions are not quite as painful as paying with cash. The lowest form of transparency comes in the form of credit cards, where the consumer cannot actually see the 3

4 money changing hands. The consumer consequently does not think about the transaction in the same way as they would when buying by cash or cheque. Due to this low level of transparency it has been found that when using credit, consumers can forget about the number of purchases they have made with their card and with the consequence that some that people are increasingly living beyond their means (Hirschman, 1979; Soman; 2001; Soman, 2003; Soman and Cheema, 2002). Consumers experience two types of debt, planned and unplanned. Due to the transaction not being salient in the consumers minds, when one has a credit card they are more likely to experience more unplanned debt (Prelec and Loewenstein, 1998). There is strong evidence to suggest that people with credit cards spend more and are more likely to overspend than those that do not (Feinberg, 1986; Soman, 2001). Studies also show that credit cards can actually act as a stimulant for purchasing (Feinberg, 1986; Prelec and Loewenstein, 1998; Prelec and Simester; 2001). When consumers think they are buying by credit card they are more likely to pay more for the product or service and this is especially the case when there are visual credit card cues present at the point of purchase (Feinberg, 1986). In his studies Feinberg (1986) found that credit 1) increases the motivation to spend, 2) increases the amount spent, 3) increases the probability of purchase, and 4) decreases the decision time. Willingness to pay is therefore increased when the consumer pays by credit over cash. If this is accurate it would be logical to expect that credit cards may be peoples preferred method of paying bills. However, data from a national consumer lifestyle survey of New Zealanders from 2000 only gives partial support for this. The lifestyle research is a five yearly survey distributed to a nationally representative sample with over 3700 respondents who complete an extensive AIO schedule containing nearly 600 questions (for additional information see for example Lawson and Todd, 2002). Table 2 gives the mean scores for preferred payment methods recorded on a 5 point scale with 1 being like to use a lot to 5 don t like to use at all. Table 2: Preferred means of paying bills Payment method Mean Payment method Mean Cash card (Eftpos, ATM) 1.77 Internet Banking 3.27 Cash 1.93 Cheques 3.64 Direct debit 2.30 Hire purchase 3.72 Telebanking 2.61 Retail charge cards 3.75 Credit card 2.87 It is interesting that credit cards are the most favoured option of all payment methods involving credit, as opposed to simply a money transfer, and they are more preferred than cheques and internet banking, though the latter was still new at the time of the survey. However, overall the idea of reducing the pain of payment does not seem to make them especially preferred compared to other payment methods. There have been relationships drawn from the use of credit cards to the concept of compulsive buying (O Guinn and Faber, 1989; Tokunaga, 1993). Consumers claim that credit enables life and gives them the chance to add meaning to their existence (O Curry, 2003). According to Thaler (1999) costs are not seen as losses through the eyes of the consumer and therefore they fail to estimate exactly how much they are spending. This ease of use and lack of budgeting skills has seen compulsive buying behaviour escalate to unexpected highs (Tokunaga, 1993). Tokunaga (1993) relates the act of compulsive buying to other addictions such as over-eating, gambling, alcohol and substance abuse. He believes that literature and theory that is related to these matters can also be applied to the issue of credit card debt and overspending as many compulsive buyers share the same characteristics as those with other addictions. Credit card 4

5 users are less likely to weigh up the pro s and con s of a purchase, and as has already been seen by Feinberg (1986), consumers decision time is less when paying by credit. Therefore consumers credit situation can get out of control and can develop a reliance on their credit card (O Guinn and Faber, 1989; Tokunaga, 1993). Budgets can help for consumers can gain control of their finances and become more aware of their spending habits (Kidwell and Turrisi, 2003; O Curry, 2003; Thaler, 1999). Many people have no idea how to budget and others are too scared to because it may bring their spending into perspective. Kidwell and Turrisi (2003) believe that budgeting is the key to helping solve the growing credit problem. If the beliefs and evaluations that influence attitude can be changed then people are likely to gain more control and employ effective budget tendencies. In order to further understand these relationships payment preferences were examined against compulsive consumption traits using data from the same New Zealand lifestyle survey referred to above which included the reduced Faber and O Guinn (1992) clinical diagnostic scale for compulsive consumption. The seven item scale has a reliability coefficient of.774 and after calculating scores as proposed by Faber and O Guinn 353 respondents (9.5%) of the sample were classified as compulsive consumers. Since there are very few empirical studies on compulsive consumption it is difficult to compare how large this proportion is with what might be expected but it is certainly a large enough proportion not to be ignored in terms of social and ethical marketing concerns. Results of independent samples t-tests between the two groups of compulsive and non-compulsive consumers in respect of the payment preferences are shown table 3. Table 3: Preferences for payment methods between compulsive consumers and others Payment method Non-compulsive consumers Compulsive Consumers Signif. Cheques Credit cards Cash cards (atm/eftpos) Telebanking Retail charge cards Cash Direct Debits Hire Purchase Internet Banking It can be seen that the data in this study does not support the received opinion about credit cards and their use by compulsive consumers. They are more disposed to using most payment methods except for cheques and credit cards. While the general trend is understandable the data does not show compulsive consumers endorsing a particular liking for credit cards and clearly this relationship needs further investigation. One possible explanation is that, as with other addictions, some remorse can be felt after purchase. This may be reinforced by credit card bills also appearing after the event leading to less favourable sentiments towards them. The kind of data to investigate this would require some kind of diary recording emotions throughout and after the purchase. Conclusions This paper has effectively illustrated the problem of credit card debt by reference to national data that shows the high have per capita debt level. The changing profiles of credit card holders seems clear from published work but suggestions that credit card themselves 5

6 stimulate bad consumption habits by removing the pain of purchase, or being directly linked to compulsive consumption are not supported from our New Zealand data. Credit cards are not confirmed as the most preferred of all payment methods. Clearly credit cards cannot be being used wisely for consumers to be accumulating the levels of debt demonstrated in table 1. Therefore card companies need responsible policies for awarding them but if they actually stimulated consumption in the manner suggested in some previous we would expect stronger preferences for them as payment methods, especially from those consumers classified as being compulsive in nature. The extent of consumer debt is a major social and ethical issue facing many societies with profound potential consequences for both business performance and marketing practice if it is not addressed. 6

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