Knocked off balance

May 21st 2009 NEW YORK From The Economist print edition A once-glittering business loses its shine CREDIT-CARD borrowers who roll over a portion of their balance each month are known as revolvers. These days lenders are in a spin as they struggle to cope with write-offs, a regulatory crackdown and changes in consumer behaviour. On May 18th American Express, a credit- and charge-card giant, announced a second round of job cuts (bringing the total to 11,000), slashed its marketing and business-development budgets and offered a “very cautious” outlook. A few days earlier Advanta, a provider of cards to small businesses, froze all existing accounts after charge-offs (uncollectable debt) reached a dizzying 20%. The shutdown sent a shiver through the market for bonds backed by credit-card debt, which is only now starting to recover from the ravaging securitised assets took last year. The rise in unemployment—which card defaults track and may now be exceeding, given the recession’s severity—has spattered a once-profitable business with red ink (see chart). David Robertson of the Nilson Report, a newsletter, expects card write-offs in America to hit $94 billion this year, up from $61 billion in 2008. As hopes that credit cards would avoid the pain felt in mortgages have dwindled, so has any chance of the industry avoiding a political backlash. This week both houses of Congress voted through a bill that would sharply curtail card issuers’ ability to charge punitive fees and raise interest rates. Barack Obama, who has railed against card issuers’ “anytime, any-reason rate hikes”, was expected to sign it into law after The Economist went to press. Edward Yingling, head of the American Bankers Association, huffed that the bill “fundamentally changes the entire business model of credit cards by restricting the ability to price credit for risk.” Some banks will react by reintroducing annual fees that they cut as they jostled for business during the boom, predicts Dennis Moroney of Tower Group, a consultancy. The industry’s claim that the bill will choke off access to credit is a bit rich given its own rush to reduce its unsecured lending. The three largest card issuers—Citigroup, JPMorgan Chase and Bank of America—withdrew credit lines worth $320 billion in the first quarter alone. By the end of 2010, the industry will have cut a staggering $2.7 trillion, forecasts Meredith Whitney, an analyst, triggering an “unprecedented liquidity crunch” that could tip creditworthy consumers into distress. Card firms face further headwinds. One is the rise of the debit card, which takes payment directly from the customer’s current account and is less lucrative for banks than credit, because transaction fees are lower and there is no opportunity to earn interest. This year, for the first time, debit- and prepaid-card spending in America on Visa is expected to overtake purchases on its credit cards (like MasterCard, Visa is a network that processes cards on behalf of banks). Much is spending that would otherwise go on credit cards. The “interchange” fees that credit-card firms earn from retailers, which have traditionally provided 10% of their revenue, are also under attack. America may yet follow Australia in capping them. Revolution, an upstart, web-based card that charges no interchange fee, is gaining traction. Little wonder, then, that card issuers feel shell-shocked. Their investors’ nerves will be tested, too. The adverse scenario for card losses envisaged in American banks’ stress tests, a cumulative two-year loss rate of 22.5%, looks increasingly like the base case to others. Betsy Graseck of Morgan Stanley expects the big three issuers to post losses in their card businesses this year and next. When they clamber back into profit, they can expect returns on assets of only one-half to two-thirds of pre-crisis levels, she reckons—enough to knock the sturdiest executive off balance.