Changing behaviours exhibited by young people, the so called ‘Millennials’ and ‘iGen’ (18 to 38) generation, are thought to pose a risk to credit card companies. Similar in respect to the threat posed by technological changes threatening traditional high-street retail stores (with the latest victim Toys R US closing branches), newspapers and landline telephones.
According to a survey conducted by the US online disrupter Bankrate.com (US), only one in three adults between 18 and 29 intend using a credit card. Comparisons by age range show very different results with younger people preferring new technologies to pay electronically, such as Apple Pay.
Credit Card Ownership by Age
Source: Bankrate Money Pulse Survey, May 2016
The Cautious Generation
There is a theory that the experience from the Great Financial Crisis in 2008, the one formative event of their adult lives, has frightened some of millennials away from borrowing who are circumnavigating major financial milestones, from buying a home to saving for retirement, with extreme caution. Nevertheless, we cannot take away the fact that high tuition fees and big obligations make millennials more averse to debt.
The idea that credits cards may become extinct is rejected by industry incumbent Mastercard. According to Solana Cozzo, a senior employee at Mastercard, “as millennials grow older and more affluent, the ownership of credit cards and the need for and desire for credit cards increase”. She suggests that spending habits of people change, particularly when they have children. Benefits to be obtained like airline miles on credit card purchases and cash backs become more appealing as part of the family budgeting process.
Hazards and Incentives
A lower credit card adoption rate by young professionals may not be such a bad trend change. For example, US credit card users not meeting repayments (at least three months behind) has reached a 7-year high, standing at $11.9 billion.
Although credit card debt accounts for just 9% of the total US banking industry’s $17.4 trillion balance sheet, it accounts for a whopping 59% of all loans written off as uncollectable; a key reason for exceptionally high borrowing rates charged by credit card companies!
Net Charge-offs as Percentage of US Total Banking Industry
Source: Federal Deposit Insurance Corporation, Q4 2017
One area of concern related to interest rate increases is the effect on borrowers and the wider economy. If the US Federal Reserve hikes interest rates four times this year, by 25 basis points each time, borrowers will be impacted. The cost of mortgages and other forms of loans will rise significantly because sums borrowed tend to be larger compared to borrowing via credit cards. Ironically, higher rates may make credit cards more attractive for borrowers. Zero percent introductory APRs, no annual fees and cash backs, add to their attractiveness, but as indicated this form of unsecured lending adds to the possibility of higher future default rates.
In the UK, the Financial Conduct Authority published new rules on Tuesday. These will force lenders to offer accommodating ways to repay the balance for those mired in persistent debt (after 36 months). This may be through extending repayment length, or waiving/ reducing credit card fees, charges and interests. Estimates put the saving from the new rules at £1.3 billion a year for consumers. This is good news for those struggling with debt, but lenders are expected to lose revenue.
From the graph below it is evident that total consumer credit that includes credit card debt and other loans such as car financing has been growing at a faster pace since 2013. We can draw a conclusion that consumer spending has been supported by growing levels of personal indebtedness rather than higher wages. Nevertheless, it seems that growth in credit is beginning to slow, while wage inflation is gathering pace. In theory, higher wages should encourage consumers to borrow less and/or repay existing credit debts with the prospect of higher interest rates.
UK Consumer Credit and Wage Growth (Rolling Year-on-Year Change)
Source: Bank of England and UK Office for National Statistics, January 2018
It appears the credit card industry faces some interesting countervailing forces. It is encountering structural change in behaviour, from the iGen and millennials generations carrying fewer cards with lower balances. The idea, put forward by Mastercard, that the younger generation will revert to type as they grow older may be kyboshed by new high levels of student debt. Moreover, the credit card industry is also seeing growing levels of non-performing debt; which means having to put more money aside for loans that may not be repaid in full.
Against these negative trends, economic fundamentals are improving; increasing economic growth, lower unemployment and rising wages all remain supportive. Furthermore, unsecured credit card lending may remain insulated from higher interest rates on the horizon due to incentives from lenders and the fact that credit card borrowers are already accustomed to paying high interest rates.
In conclusion, while the major credit card incumbents are facing structural influences the current economic cycle seems to be keep things ticking along.
With investing, your capital is at risk. Investments can fluctuate in value and you may get back less than you invest. Past performance is not a guide to future performance. Tax rules can change at any time. This blog is not personal financial advice.