Interim conclusions

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Interim conclusions

This chapter summarises our interim conclusions on how well competition is working in the interests of consumers in the credit card market, based on our analysis to date.

Interim findings

The extent to which consumers drive effective competition through shopping around and switching

We found that in most of the market, competition is working fairly well for consumers.

Consumers value the flexibility offered by credit cards and use them in different ways, for example making secure payments and collecting rewards, as an emergency credit facility, for debt consolidation, or for building credit history. There are a number of firms offering a range of products to meet these varied consumer preferences and competing strongly for their custom.

As set out in Chapter 4, consumers are engaged and willing to switch, with around 6 million new accounts opened in 2014. Evidence suggests half of those taking out a credit card shopped around first and that around 14% of existing credit card consumers took out a new card in 2014. According to our consumer survey, a further 8% compared at least two credit cards but did not take one out. Most consumers do not perceive material barriers to switching, and firms do not consider a lack of switching to be a significant barrier to entry or expansion.

Price comparison websites (PCWs) play an important role in this market.  For consumers they can help navigate complex products and reduce search costs by comparing products in one place and for firms they can help attract consumers. We found that of those consumers who shopped around, 66% used one or more PCW and found them useful. 

We found some limitations to the effectiveness of PCWs in helping consumers navigate product complexity, for example ranking criteria may be based on assumptions that may not reflect their credit card usage pattern.  We also found that PCWs on the whole did not make clear how they were funded and whether they compared the whole of the market.   We find that consumers do not always manage to choose the best credit card for their circumstances. This may be because:

  • they have not been able to effectively compare the different cards available to them
  • they have given insufficient weight to certain product features when making their decision
  • their actual card usage differed from what they expected when they took out the card

Based on our analysis of the consumer survey (Chapter 4) and firms’ business models and strategies (Chapter 5) we find that competition is focused primarily on certain product features such as introductory promotional offers and rewards. There is less competitive pressure on interest rates outside of promotional offers and on other fees and charges. Our analysis of firms’ financial submissions (Chapter 5) shows that most firms do not rely on these conditional charges to generate significant revenue, with income from default, cash withdrawal and foreign exchange fees accounting for around 5% to 12% of overall firm income.

While the market is only moderately concentrated overall, we found that higher credit risk consumers have a more limited choice of products and providers than lower risk consumers.  The main barriers to serving this segment, other than commercial viability, appear to be the reputational and regulatory risks associated with higher risk and higher cost lending. We also found higher credit risk consumers have concerns about whether other firms would offer them a credit card and the impact of multiple applications on their credit score, which discourages some from shopping around.

Balance transfer products

Balance transfer products are a significant feature of the market. We found that 22% of new accounts in 2014 involved a balance transfer, with £14bn held in balance transfers at the end of 2014. They are popular with consumers and provide a valuable role in facilitating competition for existing consumers with outstanding balances.

Balance transfer products make money from the up-front balance transfer fee, from interest on new spend on the card, and from interest on the balance at the end of the promotional period.
Balance transfer lengths have been getting longer over the past few years. Over the course of 2015, there has been an increasing prevalence of shorter balance transfers with lower fees and headline balance transfer fees on a number of long length balance transfer products have reduced.

Consumer understanding of balance transfers is mixed and there is some instances where late payment or going over-limit can result in consumers losing their 0% deal. Our consumer survey found that some consumers with balance transfers may not fully understand how they work with only 59% of respondents who had made a balance transfer to or from their main card in the last 12 months correctly answering three true or false questions about 0% balance transfer deals. Recent work by Which? found that consumers often struggle to understand the true cost of balance transfer deals.
We looked at whether BTs were storing up future problem credit card debt problems but were re-assured that:

  • Almost half of accounts repaid the full amount of the balance transferred by the end of their promotional period. This increases to 60% three months later and to 71% six months later.
  • Only around 20% of consumers that carried out a balance transfer in 2014 had previously taken out a balance transfer in either 2012 or 2013.
  • Consumers with a perceived lower credit risk were typically offered the most favourable terms, such as a longer 0% introductory offer period. Consumers with a perceived higher credit risk tended not to be accepted for balance transfer deals so they are unlikely to comprise a significant proportion of outstanding balances.

However, if wider economic conditions were to change significantly then, as with any credit product, the proportion of consumers unable to pay is likely to increase.

How firms recover their costs across different cardholder groups and the impact of this on the market

As set out in Chapter 5, we find that while different types of products may have a similar profitability over a five year lifecycle, the profile of that profit over time varies significantly between product types and the consumer behaviour underlying products’ profitability also differs by product.

Based on our analysis, we do not consider that cross-subsidisation in the credit card market materially restricts entry or expansion in the market.

We did not find firms targeting particular groups of consumers or behavioural types with a view to cross-subsidising others − depending on the design of the product any consumer behavioural type can be profitable, except those accounts that default. Within a given product, we do not consider that groups of consumers whose behaviour is profitable for the firm are significantly less restricted in their ability to switch than those whose behaviour is loss-making.

As discussed in Chapter 5, we also considered the potential impact of the cap on interchange fees.  Firms’ estimates of the reduction in income from the cap averaged 5% to 10%. Firms with higher levels of transacting consumers will face proportionally bigger losses in income.  Firms say they will respond by offering more products with a small annual fee or increasing an existing annual fee and diluting rewards schemes.

The extent of unaffordable credit card debt

There is no standard definition of problem debt in the credit card market.  As set out in Chapter 6, we used a series of indicators to assess the scale and nature of debt that is potentially problematic.  We found that of the 31 million active consumers in the last year, 1.9% (600,000 people) charged-off or were at least six months in arrears, and 4.9% (1.5mn people) missed three or more repayments and were in arrears at some point. Defaults and arrears are more prevalent amongst consumers with higher credit risk and in the more deprived demographic segments.

We also looked at credit limit utilisation, since persistent high utilisation can be an indicator of debt problems. We found that 6.6% (2.1 million people) have maintained an average credit limit utilisation of 90% or more for over one year while incurring interest. This behaviour was present across all credit risk groups and demographic segments but was more prevalent amongst consumers with higher credit risk and in the more deprived demographic segments.

We also looked at systematic minimum payment. We recognise that this may be a weaker indicator of potential credit card debt and that this group includes consumers who are not struggling. Nevertheless, it indicates that consumers are taking longer to repay their credit card debt (with associated costs) than perhaps they need to. We found that 5.2% (1.6 million people) are repeatedly making minimum payments while incurring interest.  This repayment behaviour appears across all credit risk groups and demographic segments. 

Lastly, we looked at the total costs consumers pay in debt servicing per account relative to the amount borrowed, and at the length of time they take to pay off credit card debt on these accounts. We found:

  • 1% of credit cards opened after January 2010 (360,000 accounts) paid debt service costs over five years exceeding the amount borrowed.  Those in arrears or with persistent levels of debt incurred the highest cost.
  • 8.9% of credit cards active in January 2015 (5.1million accounts) will – on current repayment patterns and assuming no further borrowing - take more than 10 years to pay off their balance.  Again, those in arrears or with persistent levels of debt take the longest to repay.

We therefore consider that we have identified a mixture of:

  • People struggling under a debt burden that is or has become problematic.
  • People paying more in debt service cost and taking longer to pay off debt than they need to.  While these people may not regard their debt as problematic, it is more expensive than it needs to be and there is some risk that it becomes problematic in the future.

We recognise that some bad debt is a feature of all credit activity - borrowing is never risk-free, as ability to repay is affected by major negative life events (such as divorce, redundancy or long term illness).  Both borrowers and lenders take a degree of risk entering into any kind of credit agreement, but particularly for open-end running-account credit such as credit cards.

However, there are known patterns of consumer behaviour (‘behavioural biases’) that will tend to lead to over-borrowing and under-repayment. These include optimism bias (consumers typically over-estimate their ability to repay), framing effects (consumers perceive costs expressed in % terms as being smaller than the same costs expressed in £), and the anchoring effect of minimum repayment amounts (consumers will tend to pay what their lender suggests).

As set out in Chapter 6, firms tend to make losses on defaulting consumers, so have strong incentives to avoid lending that has this outcome - firms’ credit risk assessments are built around predicting the likelihood of default. Firms also have a range of forbearance procedures to help consumers clearly struggling to repay.

We find that consumers with high levels of credit utilisation or systematic minimum payment behaviour are profitable, suggesting that firms have little incentive to screen these consumers out or to intervene when they identify such behaviour.