The Consumer Financial Protection Bureau’s (CFPB) proposal to amend the CARD Act to make it easier for stay-at-home spouses to qualify for credit cards has caused quite a bit of a stir in the blogosphere. Predictably, a fair number of commentators expressed their indignation with the Act’s provision at issue and demanded that it be amended. When income and expenses are shared, they would declare, stay-at-home moms should have the same access to credit as their working spouses. And yes, of course they should, and they already do, through joint applications. So I never quite understood what all the fuss was about, but, as I didn’t think that the proposed amendment could do any damage, I didn’t see a need to weigh in.
Well, I may have been wrong. Writing for the Christian Science Monitor, Card Hub’s CEO Odysseas Papadimitriou argues that if the amendment is enacted as proposed, it could promote overleveraging and higher rates of defaults and bankruptcies, which, in turn, would cause lenders to raise interest rates and cut cardholder benefits. I think Papadimitriou is right to worry about that. So let’s take a closer look at what is being discussed.
The Income Requirement
The CARD Act of 2009 requires lenders to obtain information about an applicant’s income during the application process. If that income was deemed insufficiently high, a credit card would not be issued. Here is how the Federal Reserve explained the need for such a rule:
In order to protect consumers from incurring unaffordable levels of credit card debt, the Credit Card Act requires that, before opening a new credit card account or increasing the credit limit on an existing account, card issuers consider a consumer’s ability to make the required payments on the account.
That makes perfect sense to me. However, and this is the nub of the issue, the Act did not make an exception for stay-at-home spouses, which meant that they could not report their household income, which would include their spouse’s income, and as a result they would stand little chance of being extended new credit. And there is a reason for such a rule to be enacted. Here is the Fed’s explanation:
Consistent with the act, the Board’s rule addresses practices that can result in extensions of credit to consumers who lack the ability to pay. Specifically, the rule states that credit card applications generally cannot request a consumer’s “household income” because that term is too vague to allow issuers to properly evaluate the consumer’s ability to pay. Instead, issuers must consider the consumer’s individual income or salary.
Again I see nothing wrong with the Fed’s rationale. Yet, the amendment proponents argue that if stay-at-home spouses have equal access to the household income, they should be treated the same way their working spouses do. But should they?
Why the Rule Should not Be Amended
Papadimitriou offers a couple of reasons why the proposed solution should be rejected. To begin with, he argues, it would lead to overleveraging:
Even if individuals use household income, they still only have to list personal debts, which means banks must guess about what’s missing from the equation. Thus, people who can’t afford high lines of credit are mistakenly granted them. That in turn leads to a greater number of defaults and bankruptcies on a personal level as well as significant banking losses and downward pressure on the economy in a broader sense.
And as a result, Papadimitriou concludes, credit terms would worsen for everyone:
Without the ability to gauge consumer risk, banks will have to implement a profit “buffer zone” of sorts by reducing rewards, raising interest rates, and cutting other consumer benefits. In other words, by adhering to the CFPB’s plan to provide everyone access to credit, we’d also be ensuring that what we’re accessing is average.
In other words, the “household income” vagueness the Fed was worrying about when constructing the rule could have real-life consequences, if the proposed amendment is approved.
The income reporting rule is perfectly sensible as it is and there is no reason to want to change it. After all, as Papadimitriou also points out, stay-at-home spouses can very easily get a credit card under their own name even now. All they have to do is file a joint application, together with their spouses (here is one such online application form). During the application process for such a card, they would be asked to list the income and expenses of both applicants, which is precisely what the rule change proponents want to achieve. And if one issuer doesn’t offer joint applications, you can go to another. So there is nothing broken here that needs fixing.
Image credit: Interieur3.be.