Time To Curb Credit Cards

A leading business group has urged the government to cap the rates charged by credit cards. Fool.co.uk has supported this curb for years...

One of the big quirks of personal finance is that people who have the greatest need to borrow are forced to pay the highest interest rates by lenders.

In particular, adults on low incomes or state benefits face severely reduced access to credit. Hence, they are forced to pay ultra-high rates of interest to doorstep lenders, catalogue companies, payday-loan firms and loan sharks. Indeed, for the poorest borrowers, yearly interest rates can exceed 1,800% APR!

Everyday credit isn't getting cheaper

For those of us with decent credit histories, access to credit comes a whole lot cheaper. In theory, the cost of credit should at a multi-generational low, thanks to the Bank of England base rate being cut from 5.5% in January to a historic low of 2% today. Alas, the credit crunch and housing crash means banks have racked up massive losses and bad debts, forcing them to rein in their lending.

Nowadays, getting everyday credit is probably as difficult and expensive as it's been for, say, fifteen years. For example, despite the base rate being a mere 2% a year, a typical credit card charges a standard interest rate of 17.3% APR. In other words, most credit cards charge cardholders who don't pay off their bill in full every month nearly 1.34% a month on their purchases. For cash withdrawals, interest rates can be twice as high as this, with steep fees on top.

Plastic is actually more expensive

To me, it seems patently unfair that credit-card interest rates aren't coming down, even though the base rate is at a 314-year low. As I warned last month in The Curse Of The Credit-Card Crunch, credit cards are becoming costlier, not cheaper. In fact, dozens of credit cards have hiked their interest rates and fees in order to make up for the poor lending decisions of the past.

Small businesses speak out

For years, Fool.co.uk has spoken out against high rates of interest on credit cards, arguing that card issuers are fleecing borrowers. Today, the Federation of Small Businesses (FSB), a trade body which represents small firms, agreed. The FSB has urged the government to put a ceiling on the interest rates charged by credit cards, in order to help small firms cope with a worsening recession. Of course, this move would also help consumers, so we Fools welcome the FSB's announcement.

The FSB argues that the Bank of England and HM Treasury should seriously consider capping interest rates at a reasonable level, especially given that the base rate is at a record low. For example, a cap at base rate plus, say, 8% would mean that no credit card would be able to charge more than 10% a year on purchases. In my view as an ex-banker, this margin is easily enough to make a decent profit after accounting for bad debts.

Wishful thinking?

Sadly, such a move is highly unlikely, given the precarious state of British banks, several of which have required multi-billion-pound government bailouts. Although the Prime Minister and Chancellor are pushing for banks to make more and cheaper credit available to consumers and businesses, a limit on lending rates is highly unlikely. Then again, card issuers have agreed to treat customers a little more fairly, as I explained in Credit-Card Pact Could Bring in Fees.

Instead, what I expect to see is credit volumes returning to the normal levels experienced in the mid to late Nineties, before the housing boom really took off. In other words, the government has no chance whatsoever of seeing lending levels return to the highs of 2007, whatever desperate action it takes. Ultimately, this will lead to hardship for consumers and small businesses, for which rash borrowers, banks and politicians must squarely shoulder the blame!

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