Hi All,
Since you’re interested in personal finance, you’ve probably heard that President Obama met with the heads of 14 major credit card institutions yesterday. Briefly summarized, the objective of the meeting was to discuss new regulations the Obama Administration would like to see passed.
Among the proposed changes are:
1) Reforms of credit card contract language
2) Ending abusive fees
3) Ending universal default
Legislation to this effect is percolating through both houses of Congress. The Federal Reserve is also enacting rules that will become effective in 2010. The banking industry is opposing the new changes. Analysis from the Fed indicates that the increased restrictions will increase costs for the financial sector and will result in an ongoing decrease in available personal credit.
All of the following is a matter of public record. So, the question is whether this is desirable. I think the answer is a resounding YES. Yes, for two reasons.
First, credit cards are generally a rip off. Credit card contracts are confusingly written. This camouflages the fact that card companies can charge any fee they want, anytime they want. This is blatantly immoral and a gross insult to the consumer. This alone is a compelling reason for legislation. You would be better off living frugally within your means than to take on credit card debt.
Second, American needs macro economic change. Analysis from TARP watchdog Elizabeth Warren has effectively shown that changes in housing prices and purchasing power over the past 30 years has driven a reliance on consumer credit.
From Time Magazine – Working couples with kids today rake in 75% more than the typical single-breadwinner family did in the 1970s. But the cost of owning a home has risen at a faster clip, leaving these families with nearly half the discretionary income (as a share of total income) of the ’70s crowd. Parents naturally want their kids to get a good education. Trouble is, with so many failing schools, they have to be selective about where they live. The result: bidding wars for homes in the best school districts have pushed up the median price of housing for couples with children 79% between 1983 and 1998, handily outpacing income growth over the same period.
To buy into the right locale, couples must take on far more debt than their parents did to provide the same standard of living — and even more debt to send the kids to college. The only way to cover that debt is for both parents to work, and still they are stretched too thin. It is this phenomenon that has made having a child “the single best predictor” of financial ruin. (1).
The main point is by moving America away from a reliance on consumer debt, the stressed situation of the middle class will be less aggravated. There has been a lot of discussion about the health of banks, but this is besides the point. Ultimately America will not recover until household finances return to sustainability. Part of this sustainability not having to rely on consumer credit to make ends meet.
The potential legislation also has implications for your investment portfolio. In this case, it is pretty clear that companies whose revenue relies on high interest lending are going to take a hit. Stay away from the following:
1) Bank Of America
2) Capital One
3) Discover
All of these companies are going to see increased costs associated with regulation and decreased profits from laws against usury. You don’t want to take on that extra risk unless you are expecting to get excess wealth in return.
So, just to wrap this up. The Obama administrations actions against the credit card companies should be applauded. It is change that the economy desperately needs. It also means however, that there will be some pain in the short term, so if you’ve got an investment in a company that’s heavily reliant on consumer credit card lending, consider reevaluating your position.
Best,
James
