Surprise — CARD Act Disclosures Don’t Motivate Debtors

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Chalk it up to the law of unintended consequences: A team of American and British researchers found that when debtors are presented with information about how much interest they will pay if only minimum payments are made — information currently required on credit card statements under the CARD Act — they are more likely to pay only that minimum amount and no more, increasing both the duration of their indebtedness and the amount of interest they eventually pay.

Consumers on average pay 24 percent, or $120, less on a $2,000 balance when they see a minimum on their statement, according to “Minimum Required Payment and Supplemental Information Disclosure Effects on Consumer Debt Repayment Decisions,” an article in the Journal of Marketing Research.

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It’s counter-intuitive. CARD Act legislators thought that spelling out just how much money people would pay (ie. waste) in interest if they took longer to pay down the balance would spur them to accelerate repayment. Instead, the researchers say people with very high balances tend to be discouraged when confronted with a lengthy repayment period, which decreases their motivation to pay down the debt sooner.

Increasing the minimum from the standard 2 percent up to 5 percent did boost payment amounts, and the effects varied based on borrowers’ credit limit and the amount of their revolving balance, as well as personal propensity to pay the minimum required. Study authors used both consumer surveys and anonymous credit card-user data to determine how people are influenced by disclosure information on their credit card statements.

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What’s more, just displaying a minimum amount due on the bill led study participants to select lower payment amounts.  Researchers speculate that when consumers see a minimum amount, they fixate on it and the amount becomes an “anchor.” What’s more, some consumers may be under the mistaken impression that a minimum payment is a suggestion or the quote-unquote expected amount for them to pay.

“Financial knowledge is also likely to influence repayment decisions because it affects a person’s ability to comprehend loan cost information. Evidence suggests that a surprisingly large number of consumers have poor knowledge of the cost of credit,” the report says.

It obviously would be risky for both credit card companies and consumers if issuers were to eliminate minimum payments. Some borrowers are bound to get in over their heads and default. But the study results could prompt more dialogue — and hopefully, more studies — about what does motivate people to pay down their debts in a quick and responsible manner. For starters, more knowledge of credit would help indebted consumers better understand how much their debts are costing them.