I stumbled upon Yahoo portal story from BusinessWeek this morning that I've been expecting: credit card companies are beginning to cut credit limits and getting rid of some customers altogether. This has a couple interesting consequences. Overall, however, I'm not sure it's such a bad thing.
The article leads with:
After years of getting Americans hooked on credit, card companies are slashing limits and weaning themselves off all but the safest customers.
There are a couple things that explain this. Loss and delinquency levels that credit card companies are seeing have skyrocketed:
U.S. credit-card default rates reached record highs in May, near or even above 10% for Bank of America, American Express, Citigroup, and Capital One, according to Reuters.
Card companies are trying to mitigate that risk by forcing people to spend less. Even someone with a strong credit history might be in trouble if unemployed for a year or more.
But way down in the 17th and second to last paragraph, when probably only about 5% of people are still reading:
The banks might be tightening available credit in reaction to new federal legislation, taking effect in the middle of next year, that will restrict how credit-card companies raise rates.
I don't think there's any "might" about it. In addition to mitigating recessionary risk, the game has changed. Starting this year and into next year, banks will face new constraints imposed by Congress and the Federal Reserve. Credit card companies can't use the same tools they have in the past to maintain profitability. That means they need to reduce some their exposure.
Is this bad? If consumers have less available credit, they can't consume as much. And in order to get us out of the recession, there are those who advocate everyone should consume, consume and consume some more. I think that's crazy. The recession will run its course, but once we come out of it, to have mounds of credit card debt seems insane. I've long been an advocate for people spending only what they can afford. In most cases, a lower credit limit will still allow consumers to use credit, just more responsibly.
This affects credit scores. One metric of a credit score is the ratio of debt to total credit available. In other words, the lower a portion of debt you have to the total amount of debt you could have, the better. If the denominator in that equation -- your overall credit limit -- decreases, then your FICO score will decrease too. That means when a credit card company cuts your credit line, it is responsible for your FICO score taking a hit. The article has an expert comment on this:
"This is blindsiding people," said Evan Hendricks, author of Credit Scores & Credit Reports (Atlas Books). "For a significant portion of people having their credit scores go down, it had nothing to do with what they did. This is the system making credit scores go down. This is a new thing in history."
I have always been frustrated with many aspects of how credit scores work. Consumers should have more power over their credit scores, but right now that power lies almost exclusively with debt issuers and the credit agencies. This is one aspect of consumer credit that Congress' recent credit card legislation entirely neglected.
But in this case, I'm not sure the outcome is such a bad thing. I'd suggest that credit scores were probably overinflated, as people had credit limits that were entirely too high. Credit card companies are determining exactly that in light of recent events. That's why they're lowing credit limits. If someone has a large portion of an excessive credit limit utilized, his credit score should have reflected that to begin with.
Certainly no one would fault a lender for curtailing credit limits on a borrower who had missed payments or had shown tangible and valid deterioration in risk profile.
When the largest bank holding company in the United States engages in wholesale slashing of credit limits on accounts any consumer lending
entity ( even those in the elite private banking sector ) works desperately to land as low risk, potentially long term clients.
Please do you own due diligence via a Google search. Input the terms
"bank of america" + "credit limit" and read a sampling of the massive outcry of postings.
When you see credit limits slashed on clients having FICO scores exceeding
800 who have never in their lives been late on any payment, you might ask if there is some question as to the validity of B of A's judgement or its information.
Some of the postings suggest a substantial downward movement of the credit quality of the remaining credit card portfolio. One gentleman posted that his wife, a casino employee had applied for and gotten a B of A credit card and had immediately charged it up to the hilt.
A common comment of those who will never let any payment be late is that
they have lost confidence in Bank of America and are paying off the account, closing and are dealing with banks that they can trust.
Two other Goodle surveys you might find of interest:
bankofamerica + auction rate securities
bankofamerica + cosmo
It is noteworthy that members of the Board of Directors of B of A are leaving in droves. It is also noteworthy that B of A canned its chief risk officer.
The somber, staidfast replacement: B of A's deal guy!!!!! These are the guys who cut all kinds of corners just to get deals completed.
These various red flag warnings suggest that something is amiss at the largest bank holding company.
You might want to consider doing business with a more stable institution.
"If consumers have less available credit, they can't consume as much."
I don't think this is right. Over the long term, you do have to pay the credit back, you know! So the total amount you can spend is the same whether you put it on credit or not. In fact, due to the interest rate charges, the total amount you can spend is LESS if you put it on credit.
All these credit restrictions are doing is changing the timing of expenditures. You can't buy now and pay later to the same extent. But over time, it shouldn't affect your total spending at all (except to save you money on interest.)