Credit Card Business Model Coming Under Strain


High interest rates are making it more expensive for credit cards to offer card loans, squeezing their profits, and putting in jeopardy rewards that they offer to customers, according to the WSJ.

Credit cards make money through interest charges on balances carried over from month to month, including annual fees, late payment fees, cash advance fees, merchant fees charged to businesses when customers use their credit cards, and rewards programs that encourage card usage and generate revenue through merchant fees. Some of those fees typically go towards funding the rewards programs, which people love.

Aside from interest rates directly affecting lending and deposits, there are other strains on credit card profits.

According to the WSJ: “The pandemic, and stimulus checks, also led many cardholders to pay down their balances more quickly than they did in the past, generating less lending growth and interest income for banks. At the same time, inflation in the costs of dining and travel may be leading customers to even more aggressively use and seek out rewards.”

If the boost in lending interest and payments growth is not sufficient to fund the rewards programs, the credit card companies will likely start to cut them.

The WSJ article also noted that “six of the biggest card-issuing banks said they spent nearly $68 billion, combined, for rewards and some related costs in 2022, up roughly 43% from 2019. That is about 4 percentage points faster than the growth in U.S. credit-card purchase volume across the Visa and Mastercard networks over the same period.”

But will these same trends continue in 2023? The Federal Reserve seems likely to further raise interests, creating a further drag on lending. But that’s the point—making it more difficult to lend effectively slows the economy, which will moderate inflation.

“It is important to consider a ‘Plan-B’ for issuer reward strategies,” said Brian Riley, Director of Credit and Co-Head of Payments at Javelin Strategy & Research. “The CFPB certainly has weighed in on the distribution of reward benefits by income range. With interest rates going up, due to prime rate increases, issuers need to be more selective at the underwriting point.”

“Issuers must play the long game here and be ready for a sudden shift if regulators seek to tighten interest parameters, or if delinquency spikes,” he said. “At the end of the day, branding and service remain essential.”


Source link