Why credit goes bad, and how bankers make it happen

Joe Nocera, at the New York Times, gets told by a banker what’s wrong with the current method of offering people credit:

As a banker, let me describe what we do wrong when we accept and review an application for a credit card. First, we don’t verify income. The first ‘C’ of credit: Capacity to repay, is completely ignored by the banks, just as it was in when they approved subprime mortgages. Then we ask for “household income” — as if other parties in the household could be held responsible for that debt. They cannot. And since we don’t ask for any proof of income, the customer can throw out any number they think will work for them. Then we ask if they rent or own and how much they pay. If their name is not on the mortgage, they can state zero. If they pay $1,000 in rent, they can say $500. (Years ago we asked for a copy of the lease to verify this number.) And finally, we don’t ask how much of a credit line the consumer is looking for. The banker can’t even put that amount into the system. There isn’t any place on the application for that information. We simply put unverified information into a mindless computer and the computer gets the person’s credit score and grants them the biggest line that score and income (ha!) qualifies for.

The trouble though is that as people get made redundant – did you notice the US had one of its biggest layoffs in a single month just now? – they can’t pay those bills. Credit card bills? Screw ’em. We’ll pay the mortgage (if we can). If the credit isn’t secured (which in these cases it won’t be), that means it comes back onto the lender’s books as a bad loan.

Back to the banker:

I recently had a client apply for a credit card. She is a homemaker, with no personal income. The house she lives in is in her husband’s name. She would have asked for a $3,000 credit line, just to pay miscellaneous expenses and to establish some credit on her own. So the computer is told that her household income is $150,000; her mortgage/rent payment is zero. The fact is that her husband’s mortgage payment is $7,000 a month (which he got with a no-income-verification loan). She had a good credit score, but limited credit since she has only lived in this country for the last three years. The system gave her an approval for a $26,000 line of credit!

(No-income-verification loans are also known as “liar loans”, in case you hadn’t noticed.) But there’s a law in the US which lets you opt out of being sent credit offers. Wait – why is it opt-out?

I think Congress did this backwards. Perhaps it could amend the law. The regulation should have required the consumer to opt in, if they so desire, instead of opting out. That would mean that no one would get an unsolicited credit card offer. If a consumer needs a credit card he or she could be given an option to call an 800-number to opt in. Or the consumer could go to their local bank and apply for a credit card in person. Or the consumer could go online and apply for a credit card. The consumer can also view all the best credit cards, nationally, at bankrate.com. Bankrate.com is an invaluable tool for consumers.

At the time of this writing, the article has 716 comments spread over 29 pages: that’s on a par with Charlie Brooker letting rip at Macs vs PCs.

Some are interesting – especially this one, reading in part:

My wife got confused in a double-cycle billing trap and paid a credit-card balance a day late (technically the day it was due). The bank jacked the interest rate to 30%. I told them “forget it — we’re not paying.” After a few phone calls down went the interest rate to 4%, at least by phone, but when I called for paperwork the bank told me the department that does that is overwhelmed with calls.

Hmm, that sounds like a penalty fee, doesn’t it?

The interesting question will be which banks are the most exposed to credit card debt. Bank of America is rumoured to be at the head of the line. Perhaps Hank Paulson will give them an unbeatable offer to pay it off at 0%, rising to 29% if the balance isn’t paid off in six months…

1 Comment

  1. Some friends in the US let me use their address for stuff. As one of the bits of stuff is a US credit card, I get cc offers with some regularity. Last year, on a whim, I applied for one online just to see. Five minutes later I had $7,000 in credit. I found that pretty scary. otoh, I’m not going to run up debt I can’t pay on it unless there’s an emergency, so it’s fine with me. But technically speaking they granted me a credit card at an address where I’m not resident based on reported income they couldn’t verify anyway because it’s in a foreign country.


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