Woe is me, says the credit card holder. In reaction to credit card companies spiking interest rates, the Federal Reserve Board has proposed new rules regarding consumer credit card debt. While the changes may be heralded as relief for consumers, issuers of plastic are arguing that all they'll do is increase consumer debt over the long haul.

Most marriage vows include a line about sticking with your spouse "in sickness and in health." Consumers don't feel quite the same way toward credit card companies.

Consumers like a card's variable interest rates, which can be very low during good times. However, in bad times like today's economic climate, Americans strapped with credit card debt hate the variability of their credit cards' interest rates.

Particularly irksome is a credit card company's ability to increase rates whenever they want. It's not out of the question that a cardholder might see his rates spike from 8 percent to 15 percent overnight. Card issuers have always retained this control, but with Americans sinking deeper into debt, recent rate increases have prompted the Federal Reserve to step in.

Blame it on the subprime crisis


Many of today's economic woes can be tied to the subprime mortgage crisis, and the brouhaha over credit card rates is no different. It all began when the housing market bubble burst, causing a precipitous decline in home values. This resulted in widespread mortgage defaults, particularly among subprime borrowers. These homeowners had continually refinanced adjustable-rate mortgages (ARMs) with low teaser rates, relying on increases in home equity to qualify for a new mortgage. When home values tanked, these property owners couldn't get a new loan, and were forced to default.

Banks watched these developments occur, and realized that many of these high-risk subprime lenders also held credit card balances. To compensate for the increased risk, they boosted the variable rates on their cards.

Federal Reserve to the rescue


In response, the Federal Reserve Board recommended a split interest level format, in which debts accrued under previously low interest rates would not be subjected to the higher rate. Consumers would also be given an extended grace period before the new rates would kick in.

Credit card companies naturally oppose the legislation, and warn that this type of consumer credit will only come back to haunt people in the long run. With the new restrictions, banks will have to adjust their prices for future rate changes. This will cause less rate volatility, but card issuers warn that overall rates could go even higher.

The underlying theme to the recent consumer debt developments is that you can't have your cake and eat it, too. Consumers enjoyed rock-bottom rates during the housing peak, and now they need to ride out the higher rates of tougher economic times. The lesson to be learned is that you can't live beyond your means. In good times, avoid credit card debt. That way, when bad times come, you're ready to take the hit.

Published on September 28, 2008