Why Plastic Credit Is So Costly

Of all the ways to borrow money, few are more expensive than running up a big bill on a credit card. In most areas of the U.S., the cards issued by banks, department stores and oil companies typically carry an annual Interest rate of 18% to 21% on unpaid balances. A few lenders at the high end of this range have now decided to give their customers a bit of relief. The Bank of New York, for example, said last week that starting May 1 the rate it charges Visa and MasterCard holders will drop from 19.8% to 18%. InterFirst Corp., a holding company that operates 51 banks in Texas, announced that on April 20 it will lower its bank-card interest from 21% to 18%.

Most bankers and retailers, however, are dragging their feet about reducing credit-card charges. Bankers insist that these accounts are exceptionally expensive to administer and, as a result, interest charges on them have always been high. In many states, credit-card rates have hovered at 18% or more for at least a decade, through periods when the banks' cost of borrowing was roughly half what it is now, so those rates seem unlikely to drop below 18% any time soon.

Banks and retailers face hosts of problems that drive up rates: borrowers who welsh on their debts, thieves who steal cards and go on shopping sprees, and more sophisticated criminals who make counterfeit charge plates. One top executive at a New York City bank estimates that about one-fifth of the 19.8% interest his institution charges on credit cards goes to cover loan losses and the expense of collecting tardy payments.

For bankers, the greatest danger is that a surge in the cost of money used to fund credit-card loans will wipe out profit margins. That happened in 1981, when banks were paying close to 18% for money, and retailers sometimes more than 20%. At the time, usury laws in nearly half the states set credit-card interest ceilings of 12% for balances of more than a few hundred dollars. Partly for that reason, Sears, Roebuck lost $83 million on its credit-card sales in 1981, while the Carter Hawley Hale chain of department stores dropped $74 million.

In the past two years, 44 states, under pressure from banks and retailers, have loosened their usury laws. In New York, for example, the legal limit on credit-card interest rose from 18% to 25%. Now that card issuers can charge more in many areas of the U.S., they are keeping rates high to make up for past lean years.

The only industry that may be poised for a big plunge in credit-card rates is the airline business. In January, Eastern Air Lines slashed the interest rate on its Wings charge card from 18% to 11.88%. The other airlines have been watching to see if Eastern's business goes up substantially. How long Eastern can hold down its interest rate is uncertain, given its weak financial condition. The carrier says that it does not expect to make money from its meager finance charge but hopes to fill plane seats that would otherwise be empty. This file is automatically generated by a robot program, so viewer discretion is required.