Banks Playing Their Best Card For Profit Margins
Sydney Morning Herald
Thursday April 5, 2001
The interest-rate cut may be great news for new home buyers but spare a thought for credit card users who are still doing it tough. Steve Burrell writes.
Home-loan borrowers may be celebrating yesterday's official interest rate cut, but for some credit card users the fall could mean an effective increase in interest costs as banks again seek to fatten their profit margins.
Research by the Herald reveals that the major banks have used all eight previous cuts in official rates in the last five years to increase their margins on credit card borrowings, either by holding their rates steady or reducing them by less than the Reserve Bank's cuts.
With an election approaching and the political spotlight on bank costs and charges, and calls from NSW Fair Trading Minister John Watkins to pass on yesterday's cut in the official rate, the National Australia, Commonwealth and Bendigo banks took the rare step of immediately cutting their card rates by the full 0.5 percentage points.
Other banks did not move, although ANZ said it had card rates under review.
But what happened yesterday didn't happen in the past.
The difference between the average rate on bank-issued credit cards with an interest-free period the benchmark tracked by the Reserve Bank and the official rate is a good indicator of movements in credit card profit margins.
The figures show that every time the Reserve eased policy since mid 1996, the gap between the two widened.
The margin has risen from 9.2 percentage points in June 1996 to a high of 10.85 points after the rate cut early last month although this is still much lower than the 15 per cent gap prevailing in the early 1990s.
Since early February, when the Reserve began its latest easing cycle, the gap has risen by 0.4 percentage points, with only 0.35 percentage points of the 0.75 point reduction in official rates passed on.
(Ironically, though, the increases in official rates in late 1999 and early 2000 forced the banks to slightly squeeze credit card margins, albeit temporarily.)
Although card rates occasionally come down in response to monetary easings as the Reserve noted in a report on bank lending rates for ``customers who use credit cards as personal loans, the widening of margins on credit cards represents an effective increase in costs".
Based on Reserve Bank figures for the current level of outstanding bank credit-card advances of $17.6 billion, each 0.1 percentage point rise in their interest margins is potentially worth around $17.6 million a year in extra profit to the banks assuming their cost of funds moves in line with official rates and the cost of running their card business is unchanged.
However, this would be less in practice, because many credit-card customers take advantage of interest-free periods offered by the banks by paying off their outstanding debt before interest costs are incurred.
The tendency of the banks to drag their feet on reducing credit card rates has been in stark contrast to home mortgage rates, which tend to rise and fall in virtual lockstep with movements in the official cash rate.
Margins on home loans are also much slimmer than on credit cards, the most expensive form of bank finance.
The latest figures show the gap between the standard variable mortgage rate and cash to be just 1.8 percentage points, compared with 10.85 points for credit cards.
This gap has barely changed in the last four years as home lenders pass on the full amount of official rate moves as all the big banks did yesterday.
These slimmer margins and the rapid passing on of rate cuts reflects the high level of competition in the home loan market, the apparently greater sensitivity of bank customers to the cost of mortgages, the lower risk of bad debts and the close link between changes in the cost of deposits used by the banks to fund mortgages and the official rate.
The ``stickiness" of credit credit rates may also reflect the fact that many customers effectively use them as debit cards taking advantage of the many loyalty programs such as frequent flyer points now attached to their cards, but repaying their balance in full every month before being hit with interest costs.
Similarly, some borrowers who attach their credit cards to home equity loans pay interest on card borrowings at the much lower home loan rate.
Both would reduce competitive pressures on the banks to pare back margins to keep customers.
© 2001 Sydney Morning Herald
