Consumers and Credit Cards: Once Burnt, Twice Wary
Even though the prolonged economic downturn has left many Americans strapped for cash, recent numbers suggest that consumers are showing increasing restraint when it comes to using credit cards to fill the gap.
The average credit utilization ratio, which is a measure of how much credit card debt consumers carry in relation to their credit limit, has shrunk to about three quarters of its previous levels. In 2007, cardholders kept balances at 30.6 percent of their credit limits on average, in 2010 consumers had trimmed that number down to 23 percent. In addition, today’s average balance on newly opened credit cards hovers at $994, down $321 from last year’s $1,315, according to the recently released Experian-Oliver Wyman Market Intelligence Report.
The pullback in credit card usage could indicate that, despite the new consumer protections set forth in the Credit CARD Act, consumers have grown twice wary when it comes to using credit cards. Millions of Americans are still smarting from last year’s skyrocketed rates, credit line slashes, and unexpected account closures. Furthermore, with the ever-present reminders of economic uncertainty and the extended high unemployment rates, consumers have pulled back on spending and grown increasingly wary of financing expenditures by taking on credit card debt.
That caution is well founded. Despite the new protections in the credit card law, interest rates are expected to rise in the near future on all types of consumer loans, driven by general macroeconomic forces. Over the past year, card issuers have turned most credit cards into variable rate credit cards tied to the prime rate. Many economists predict that the prime rate will soon begin an upward climb from its current historic lows, making all credit card users vulnerable to interest rate increases, despite the new credit card protections.
Overall, the reduction in consumers’ credit utilization is a positive trend. With less dependency on debt to make ends meet, American consumers are beginning to return to a stronger financial foundation. Many consumers will find that the decreased credit utilization will bump up their FICO score, because almost one third of credit scores are made up of the debt-to-credit ratio. By scaling back debt, consumers will improve this ratio and bolster their credit scores.
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