The Skirmish over Credit Cards

The Senate may be voting this week on a bill to tighten regulation of credit card issuers – or not, since you can never tell with the Senate. Despite an agreement between the ranking members of the Senate Banking Committee, there is a series of amendments from both sides to go through; Real Time Economics has a summary of the issues that were open as of earlier this week.

I wrote a post on The Hearing earlier describing the debate as one between two economic perspectives: classical economics (credit card issuers should be able to offer any terms they want; if people accept them, that by definition means it increases their utility) and behavioral economics (people suffer from cognitive fallacies, like thinking that they will never pay any of those fees threatened in the credit card agreement, so regulations should help people make better decisions and protect them from bad decisions).

Looking back over that post, it was far too balanced. There is a plausible theoretical argument that tighter restrictions have the effect of limiting the supply of credit to marginal customers, but that’s not what’s going on here. First of all, there isn’t much demand for credit these days. Second, it’s really about whether credit card issuers will be able to use increased interest rates and fees to partially offset their increased default rates. And of course, this isn’t going to be decided by economics, but by power. The more relevant question is the one that Simon was asked on MSNBC: “Do the banks own the Senate?”

As we’ve written before, there is a complex relationship of co-dependency between the government and the banking sector. The administration has placed its bets on the banking sector in its current form, with its current leaders, and has provided it large amounts of financial support; and many members of Congress have even more direct allegiances to the banking sector via the mechanism of campaign finance. At the same time, banks are largely hated today, and credit card companies perhaps more than any other part of the banking industry. (They are largely the same companies – Bank of America, Citigroup, and JPMorgan Chase all have huge credit card businesses – but people feel differently about their credit cards and their checking accounts.) So this bill, and President Obama’s lobbying for it, is a way to strike a blow for the beleaguered consumer while not doing too much damage to banks’ profitmaking ability. As Felix Salmon pointed out, the Federal Reserve already defined new credit card regulations that go into effect in July 2010.

From the banks’ perspective, this may look like a slippery slope to more regulation, and so they are trotting out all the usual arguments that Salmon describes in his post. But when push comes to shove, I doubt they will call in all their favors fighting this battle. The big fight will be over the new regulatory structure in the fall, and in the meantime it doesn’t hurt to let the administration have a victory.

About James Kwak 133 Articles

James Kwak is a former McKinsey consultant, a co-founder of Guidewire Software, and currently a student at the Yale Law School. He is a co-founder of The Baseline Scenario.

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