Do Rewards Credit Cards Cause Debt?

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The Federal Reserve Bank of Chicago released a study in which it claims that “credit cards that give cash back prompt consumers to spend more and accrue more debt.” As reported in the Wall Street Journal:

“The [Fed] economists looked at 12,000 credit card accounts at a financial institution whose identity they don’t disclose over a two-year period ended June 2002. Some of the customers were offered cash-back rewards; others weren’t.That debts grew faster than spending among those offered cash rewards likely means people reduced their monthly payments more than they increased spending. That means that, for a lot of people, the benefit of a cash-back reward is negated by increased overall spending and debt.”

Trust me when I say that I am reluctant to challenge the Fed on their research. They’re not a bunch of amateur, armchair market researchers. They’re world class economists and statisticians. But I’ve got some issues with this study:

1. The timing. The data that fuels the Fed study comes from 2000 through 2002. The issue isn’t that the data is old. The issue is that that particular point in time was a period of rising unemployment (from 4% in Jan 2000 to 6% in Dec 2002). As unemployment rises, so does credit-driven spending as income drops. What the Fed found might be driven as much from underlying economic conditions as from rewards cards. Would be interesting to see what the Fed would have found if it had looked at the 2008 to 2010 period, when debit card usage exceeded credit card usage, and when a significantly greater number of Gen Yers comprised the adult population.

2. The data source. Different card issuers have target consumers with different risk profiles. If the FI in question was a firm like Providian, the base of cardholders would definitely not mirror the overall cardholder population. Since the FI that supplied the data isn’t named, it’s hard to come to any definitive conclusion on this, but it’s possible that the sample was not a representative one.

3. The market. Even if points #1 and #2 above aren’t legitimate issues, the rewards card market in 2010 is very different than it was in 2000-2002. The number and types of rewards cards in the market have proliferated over the past 10 years. Many of today’s cash-back cards alter the cash-back percentage for different categories of products and services. It’s conceivable that a 2010 cash-back card might drive higher levels of spending for gas and groceries (consumer staples) than on discretionary products.

The Fed’s findings are inconsistent with research I’ve done at Aite Group. In a 2008 report titled Credit Card Rewards: Why Issuers Should Compete on Service, we found that rewards cardholders:

  • Are less likely to revolve balances. Two-thirds of rewards cardholders pay off their credit card balance in full each month, while just 9% of them make the minimum payment. Among other consumers, 40% pay their balance in full, and 17% make the minimum payment on their card balance.
  • Don’t consolidate cards. The notion that rewards cards lead to a consolidated use of credit cards doesn’t pass muster. Consumers with rewards cards are just as likely as other cardholders to use most of the cards in their wallet. Among rewards cardholders with three cards, for example, more than half use all three cards, while nearly 90% regularly use two of them.

I’m not disputing that the Fed found what it found in its study. But I am questioning the study’s applicability to 2010.

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