But some innovative products link the purchase rate to the mortgage
Despite 12 Reserve Bank cuts to the official cash rate since 2011, the average personal credit card purchase rate hasn’t budged from 19%. Looking at historical purchase rates on the big four’s suite of credit cards from February 2014, I was stunned to learn that when three of them did move rates it was up rather than down, as the Reserve Bank had cut the cash rate four times by that time, from 2.5% to 1.5%.
As Peter Arnold, RateCity’s data and insights director, says: “Consumers are right to expect that credit card rates will move up and down in line with the cash rate and, up until 2011, that was the case.”
This is no longer the case. Today there’s a 17.5% gap between the average credit card purchase rate and the cash rate. In 2007, that gap was around 8%.
That said, I am talking about the average purchase rate for all cards. There are plenty of innovative cards, some with interest rates linked to home loan rates, which makes perfect sense given that most home owners take out a package that generally comes with a card.
Banks could argue that credit cards are an unsecured debt so the interest rate needs to reflect the risk. But so are unsecured personal loans, which are nowhere near 19%. They could argue that rewards cards don’t come cheap. But what are interchange fees and annual fees for?
I should point out a few things here. The default rate, where repayment is more than 90 days late on credit cards, was just 1.5% in early 2015. However, the overall loss rate is probably higher than that because some issuers write off credit card debts before they get listed as “non-performing loans”.
As for why rates are so high, we don’t know enough about banks’ funding sources. They always argue, as highlighted in a Senate committee report late last year: “We cannot pass rate cuts on because our sources of funding are different – it is not just the cash rate; it is our external sources.”
Quoted in the Senate report, Swinburne University of Technology economics professor Abbas Valadkhani noted that between 1990 and 2012 the banks had immediately passed on 112% of RBA cash rate increases (the full value plus 12%) but only 53.7% of cuts – and cuts were delayed by an average 2½ months. He called this the “rockets-and-feathers” effect: credit card interest rates “shoot up like a rocket” but “float down like a feather”.
Canstar analyst James Slack says that while the credit card market is very competitive, banks seem to try to differentiate themselves with purchase rates, perhaps because we don’t pay attention to the interest rate on our card.
The good news is that we are paying off our card debt at a record rate. Balances accruing interest have been falling since reaching a peak of $37.1 billion, or $2471 a card, in April 2012, reports finder.com.au.
Where does this leave credit card issuers? Slack says they’ll need to adapt to declining interchange revenue (the RBA has put a cap on this) as well as interest revenue if cardholders pay their outstanding balances in full each month.
“Banks may find it hard to retain customers who have nearly 200 credit cards in the market to choose from,” he says. “They will have to innovate to retain and attract new customers.”
And some are. The P&N Bank home loan package, for example, includes a Visa Platinum card with a purchase rate (4.15%pa) linked to P&N’s variable mortgage rate (4.15%pa). Service One Alliance bank offers a similar product, linking its Visa card rate to its standard variable rate for home loan customers.
Other picks from Canstar include Citibank’s “fixed payment option” on credit card purchases worth more than $1000. The purchases are converted to a loan with fixed monthly repayments at 12.99%pa. The loan reduces the available balance on your credit card but doesn’t affect the interestfree days for other purchases on the card.
American Express offers cardholders interest-free instalment payments on their cards. Purchases costing as little as $300 can be paid for in instalments for three, six or 12 months at 0% interest. An upfront fee does apply – 2% (three months), 3% (six months) and 4% (12 months). A particular purchase can’t be nominated; rather debts on purchases above a certain amount are automatically converted for instalment payments. The arrangement can be turned on or off by the cardholder at any time.
And finally there are cards that offer longer interest-free periods. GEM Visa, for example, has no interest for six months on purchases costing $250 or more at participating stores. The catch? If you don’t pay it off in time a very high purchase rate of 24.99% applies.
Finance expert and author of The Great $20 Adventure, Money’s editor Effie Zahos, appears regularly on TV and radio. She started her career in banking.