Is Debt in the CARDs for You?

Posted on by Alyssa Curran

Last month, the CARD (Credit Card Accountability, Responsibility and Disclosure) Act went into effect, after having been signed into law on May 22 last year. One of the fastest-growing problems for Americans is the ever-increasing size of their debt. This comes from many sources — e.g., school loans, mortgages, and credit cards — and this legislation was written in an attempt to curb one significant source.

Credit card contracts have become increasingly complicated and ridden with hidden fees in recent years, as financial institutions have up until now had the freedom to impose such fees and rate hikes without notice or advance consent by the consumer. According to a White House press release issued in May 2009, “Every year, Americans pay around $15 billion in penalty fees.” Legislators hoped their bill would foster transparency, accountability, and responsibility on the part of banks, credit unions, and other financial institutions.

These are some of the CARD Act’s provisions, as summarized by the White House press release:

  • Bans Retroactive Rate Increases: Bans rate increases on existing balances due to “any time, any reason” or “universal default” and severely restricts retroactive rate increases due to late payment.

  • First Year Protection: Contract terms must be clearly spelled out and stable for the entirety of the first year. Firms may continue to offer promotional rates with new accounts or during the life of an account, but these rates must be clearly disclosed and last at least 6 months.

  • Ends Late Fee Traps: Institutions will have to give card holders a reasonable time to pay the monthly bill – at least 21 calendar days from time of mailing. The act also ends late fee traps such as weekend deadlines, due dates that change each month, and deadlines that fall in the middle of the day.

  • Enforces Fair Interest Calculation: Credit card companies will be required to apply excess payments to the highest interest balance first, as consumers expect them to do. The act also ends the confusing and unfair practice by which issuers use the balance in a previous month to calculate interest charges on the current month, so called “double-cycle” billing.

  • Requires Opt-In to Over-Limit Fees: Consumers will find it easier to avoid over-limit fees because institutions will have to obtain a consumer’s permission to process transactions that would place the account over the limit.

  • Limits Fees on Gift and Stored Value Cards: The act enhances disclosure on fees for gift and stored value cards and restricts inactivity fees unless the card has been inactive for at least 12 months.

  • Plain Sight /Plain Language Disclosures: Credit card contract terms will be disclosed in language that consumers can see and understand so they can avoid unnecessary costs and manage their finances.

  • Real Information about the Financial Consequences of Decisions: Issuers will be required to show the consequences to consumers of their credit decisions.

Increasing levels of consumer debt are certainly worrisome, but new legislation setting mandates for credit card companies and financial institutions will almost certainly cause problems, and could even make the status quo situation worse. As mentioned in an article on MSN Money, there is currently no cap on how high interest rates could go. And, as expected, card companies are already devising methods of circumventing the provisions of the new legislation. They are developing new products that aren’t specifically banned but that still impose the type of fees and interest rates that this legislation was intended to combat.

Reason editor Nick Gillespie pointed out in a recent article that this type of legislation stunts the development of financial instruments that could be otherwise used by responsible credit card holders, and so is not the best way to ensure that consumers obtain access to reliable credit. Gillespie points out, “No financial crisis is created by access to credit per se; it’s created by real and presumed government bailouts of bad decisions made by folks with access to credit.” As a result, this new government legislation may help to exacerbate the negative aspects of the economic climate.

There has also been discussion of the creation of a Consumer Financial Protection Agency that would attempt to ensure that consumers of credit cards and other financial instruments are protected from practices that the agency deems to be unfair. However, this idea also deserves scrutiny, because it would impose more costly rules and regulations, stunting growth and innovation. As Anthony Randazzo argued in another Reason article, it would most likely create conflicts between federal and state governments, among other problems.

The Federal Reserve is cracking down on an analogous issue: overdraft fees. As a part-time bank teller, I see this issue arise more often than you might expect. It is a baffling and complex issue for many account holders. In the near future, financial institutions will be required to offer customers the ability to make decisions about overdraft services and fees. What most account holders don’t realize is that they have an overdraft matrix — an amount that they are allowed to overdraw their account — based on complex factors. At the time of a transaction that will pull funds from an account, customers are not presented with the knowledge that they are about to overdraw their available funds. The purchase or ATM withdrawal simply goes through successfully, and later later entails a hefty fee. If customers are not aware that this has happened, and make a few more purchases with that account on the same day, the same sizable fee will recur — for as many times as they charge an individual transaction and overdraw the account. This can quickly add up to a significant sum of money. It is true that account holders have the responsibility to know how much money is available in their accounts and keep track of whether they will overdraw, but the new rules will require that consumers be presented with the choice either to overdraw their account and pay the associated fee — a service provided by their financial institution — or to have the transaction declined. These rules are expected to take effect in July. This ability to choose between voluntarily paying an overdraft fee and abstaining from a particular transaction will be a positive development for many.

The impulse to help consumers during the financial crisis is admirable, but the Credit Card Act and a proposed Consumer Financial Protection Agency will also have hidden costs — downfalls that may not be worth the expected benefits. Some consumers of credit cards, loans, bank accounts, and other financial instruments are suffering from an economic phenomenon called “information asymmetry,” whereby relevant information is known to some but not all parties involved in market transactions. While such asymmetry applies to some degree in every market, the gap of knowledge between the producers and consumers of financial instruments has grown significantly. I suggest, however, that instead of formulating costly rules and regulations regarding fees, interest rates, and certain types of financial instruments, more attention be paid to allowing consumers to make these choices for themselves. In order for consumers to make better decisions, however, resources must be applied toward educating consumers about these instruments, and bringing greater transparency to financial institutions’ operations. When consumers feel confident that they fully understand the financial instruments they use, it may also help to stave off the urge that regulators often have to indulge their paternal instincts and attempt to protect us to the point of stifling us.

Due Credit for Cutting Tax Credits

Posted on by Caitlin Hartsell

In his quest to balance the budget, Gov. Jay Nixon has proposed cutting tax credits drastically:

[Nixon’s economic development director David] Kerr said that rather than just putting caps on tax credit programs, the administration wanted to “reform the whole thing from scratch.” Under the plan, the state would set a “global cap” of $314 million in tax credits that could be authorized next year. The number is pegged to 70 percent of the credits claimed last year.

Certain tax credit programs, like the Homestead Preservation Credit for the elderly, would be exempt from cuts and caps, but most of the others would be subject to the cuts. Tax credits are something that Show-Me Institute scholars have written about frequently in past articles and blog entries. Lower tax rates across the board are preferable to targeted tax credits, which can be used to help special interests. The governor’s drastic plan is a good step in the right direction toward decreasing dependency on these credits.

(To be fair, there are a few tax credits I personally think should be kept, namely the charitable contribution tax credit. It is not targeted at any one business, but can be used by individuals to benefit the causes they deem worthy of donation.)

In discussing the governor’s plan, Show-Me Institute staff writer Audrey Spalding made an interesting point: The fact that the governor plans to cut only half of the tax credit programs seems to imply that there is still some value in the 61 tax credit programs currently in place. She suggested that tax credits should be subjected to an appropriations process, an idea proposed in the General Assembly by Sen. Jason Crowell. This would force the real question of whether each program and tax credit is useful in and of itself in comparison to other possible avenues for government spending.

Up until now, the amount that the state spent on tax credits was not bound in any way. But every tax credit awarded is money that cannot be spent elsewhere. At any point in time — but especially during a budget crisis — these tax credits need to be subjected to great scrutiny, so that the cost-benefit analysis is able to weed out the least deserving programs. I applaud the governor’s efforts to reduce tax credits, but I hope that the process goes even further, and officials reexamine the value of each tax credit.

SMI on Public Radio Tomorrow

Posted on by Dave Roland

Tomorrow (Tuesday), I’ll be a special guest for the Legal Roundtable segment on Don Marsh’s “St. Louis On The Air” radio show. The show will run from 11:00 a.m. to 12:00 noon on 90.7 KWMU — with live streaming over the Internet available here.

Our primary topic will be the constitutional issue swirling around the new federal health care reform law and Missouri’s Health Care Freedom Act, which would prohibit punishment for individual citizens who decline to purchase a product they may not want.

Your Government, Your Editor

Posted on by Dave Roland

The Riverfront Times blog points out that a judge in the local U.S. District Court has determined that St. Louis city may choose which messages it permits citizens to express. In a case that we’ve previously discussed here, Jim Roos sued the city when officials demanded that he remove a mural on one of his buildings calling for an end to eminent domain abuse. Roos pointed out that the city’s laws would have permitted the mural if only he had chosen to communicate a different idea (such as displaying a flag, some other approved symbol, or “Go, Cardinals!”), and that the First Amendment does not allow government to make content-based distinctions in deciding when and where citizens can express themselves — especially when that expression is related to issues of political importance.

The court ruled today that the government does, in fact, get to choose which messages citizens can communicate. In the words of Michael Bindas, one of the attorneys from the Institute for Justice representing Roos in his lawsuit, “The court’s decision gets it precisely backwards.” Fortunately, IJ and Roos intend to keep fighting, and the Eighth Circuit Court of Appeals will have the chance to correct the lower court’s mistake.

How to Save $26.6 Million Annually

Posted on by Christine Harbin

Having a huge state budget deficit does have positive consequences, albeit few. One particular example is that the Missouri state government is making an effort to curb excessive spending.

The prison system in Missouri is one area of the state budget that would benefit from some fiscal restraint, as John Payne has noted before. According to an op-ed in the Saint Louis Post-Dispatch, the Missouri legislature has proposed to reduce the number of nonviolent first offenders sent to state prisons, and it is projected to realize significant savings as a result. From the editorial:

If 1,200 offenders were put into judicially supervised drug treatment programs and 800 received “enhanced probation,” costs would go down to $7.1 million.

Those savings would increase steadily and reach $26.6 million a year if a prison were to close. Aggressively pursued, the financial goal could be reached within a year.

Additionally and parenthetically, the article also points out that the practice of incarcerating nonviolent felons has some negative unintended consequences that perpetuate the state’s fiscal troubles:

Recidivism and re-incarceration rates have risen, guaranteeing that “this cycle will continue to worsen at a faster and faster pace, eating tens of millions of dollars in the process,” [Missouri Chief Justice William Ray] Price said.

Missouri would be wise to consider the competing needs of other programs for this money, such as education and incarceration of felons that committed violent crimes. Alyssa Curran articulated this point in a previous post on this blog:

Regardless of how one feels about the morality of such activities, it’s hard to justify expending so many resources on their prosecution when the core functions of the judicial system — protecting life, liberty, and property from actual direct, measurable harm — is suffering from a lack of resources.

The Earnings Tax Is Still Bad, for All the Reasons We’ve Already Said

Posted on by Josh Smith

The Kansas City Star‘s website has a piece today by two Saint Louis University professors arguing against the repeal of the earnings taxes in St. Louis and Kansas City. The bulk of their commentary is intended to be a criticism of this 2006 study by Show-Me Institute executive vice president and University of Missouri–Columbia economics professor Joseph Haslag, but the SLU professors, Lisa Gladson and Jack Strauss, have crafted an argument that doesn’t really address Haslag’s findings. In fact, they seem to have missed the point entirely.

In the Show-Me Institute study, “How an Earnings Tax Harms Cities Like Saint Louis and Kansas City,” Haslag shares his findings that there is a measurable negative impact for cities with an earnings tax. The opening of the paper itself provides an ideal summary: “About one in four large cities in the United States has an earnings tax. I attempt to quantify the relationship between the earnings tax rate and the growth rate of cities relative to their metropolitan statistical areas (MSA). I find that cities with an earnings tax tend to have a significantly lower ratio of city income to MSA income than those without them.”

Haslag goes on to argue that the earnings tax distorts the growth of the MSA, encouraging people to locate in outlying areas rather than in the city center — discouraging investment in the city and reducing per-capita income.

The counter offered by Gladson and Strauss is responding to a different point — one not made in the Show-Me Institute study. They claim that Haslag’s study “offers a simple negative correlation between cities with earnings taxes and real per capita income growth.” This is emphatically not the point being made in the study. Growth implies a comparison over time, whereas the Show-Me Institute policy study to which they refer used side-by-side comparisons of population proportions and where they happened to be located within the MSA. Haslag does not make any arguments about the level of growth, but rather about where the people are located. It may be that the MSAs grow faster or slower because of the presence or absence of an earnings tax, but Haslag’s study drew no connection between growth and the presence of an earnings tax. Haslag may or may not be surprised to learn that Gladson and Strauss “found no relationship between earnings taxes and a city’s income growth, and no evidence that earnings taxes are a reason for a city’s slow growth,” because this is not what he looked at in his study.

Haslag found, with careful, externally reviewed analysis, that the presence of an earnings tax negatively impacts the income of the cities that implement them when residents can easily shift to a nearby area without such a tax. Perhaps after a more careful reading of the piece, Gladson and Strauss will find some salient point on which they can disagree with this study, but for now their offering is an argument without an opponent.

“Consider the Competing Needs”

Posted on by Christine Harbin

In an op-ed published today, the editorial board at the St. Joseph News-Press encourages Missouri’s legislators and leaders in economic development to “consider the competing needs” when deciding whether to continue financially supporting the Tour of Missouri. (Link via Combest).

Taxpayers understand you don’t add to your stock investments when you are struggling to buy food and pay for college tuition. Business owners rarely add a second location, no matter the potential, when times are tough and they have payrolls to meet.

So, too, the state’s legislators and economic-development leaders must choose between funding the cycling competition or fully funding such things as teachers and early-childhood education.

This is an example of the “hard choices” that Sarah Brodsky described earlier on this blog. Before they spend money on any program — be it a cycling competition, a light-rail expansion, or anything else — state and local governments should perform this kind of cost-benefit analysis to determine whether the money can be spent more wisely elsewhere.

Counties, Not Municipalities, Should Determine TIFs

Posted on by David Stokes

The core of this issue has already been argued on the eastern side of the state. A 2007 change to state law granted more authority to county TIF commissions within the Saint Louis area, at the expense of municipal TIF commissions. This led cities within Saint Louis County to file a lawsuit attempting to overturn the change. Municipalities in the area had been enacting tax incentives, particularly TIF, with much greater frequency and much less fiscal prudence than the counties themselves. Fortunately, an agreement was reached between the cities and the county, and a modified version of the TIF commission still giving more power to the counties was agreed upon.

When it comes to TIF authority in the Kansas City area, though, cities still dominate. The Kansas City TIF Commission has 11 members, six of which are appointed by the city. The county, school districts, and other districts share the other five positions. Even if there is total opposition to a tax incentive proposal by every other government jurisdiction on the commission, the city can still pass any tax incentive it wants. Put simply, municipal TIF commissions are a rigged game and a closed process, whereby city officials can make decisions that have a dramatic effect on people outside of that city.

Which level of government should really be making these decisions about TIF or other types of tax incentives? The debate tends to weigh two sides: city officials who presumably have a better idea what might work for their city and their residents, or higher levels of authority that would hopefully consider a larger picture, because these tax exemptions and incentives generally have an economic effect that radiates much farther than just within the cities involved. I believe that the county level works best for these types of decisions. After all, county government is local government by every measure. I trust that the powers that be in Jackson County government are not so far removed in their courthouse skyscraper that they have no idea what might work well for the people of Kansas City, Independence, and Grain Valley.

Counties are also large enough that they can put proposed tax incentives into perspective, making decisions outside of a municipal vacuum. If these incentive decisions were made at the county level, cities would no longer face the fear and pressure to remain competitive with surrounding cities by issuing generous incentives to favored businesses. County officials would also have a much better claim to represent and, more importantly, remain accountable to the various entities and residents affected by such decisions. Cities would certainly maintain a voice in the process, as would school districts, through rotating appointments on the county TIF commission that could be determined by the locations of future proposals. That is how the commission now functions in Saint Louis County, and how it could (and should) work in Jackson County, as well in as the metropolitan areas other counties.

If judges and elected officials ultimately determine that TIF commission power should rest at the county level, we could expect an end to TIFs and similar giveaways in some counties, and a reduction in their use in many others. Saint Charles County, near Saint Louis, has been one of the fastest-growing counties in the state for three decades, yet its leadership flatly refuses to support TIF. It has never passed a TIF project in the unincorporated part of the county, and it has fought every TIF proposal within its cities. The tremendous fiscal discipline shown by Saint Charles County, while still experiencing great economic growth, helps demonstrate why these decisions work well at the county level.

The prominent abuses of TIF in Missouri have occurred within municipalities that push for tax incentives, rather than in the unincorporated areas of counties. Similarly, most of the ugly cases of tax incentives involving the threat of eminent domain abuse have also occurred in cities, such as Sugar Creek. So, what should be done with the Kansas City TIF commission? Area residents would benefit if it were abolished, and all its authority transferred to county commissions. I believe residents throughout Missouri would be better served by appointing countywide TIF commissions to be responsible for tax incentive determinations.

David Stokes is a policy analyst at the Show-Me Institute, a Missouri-based think tank.

Which Education Reforms Are Most Likely to Succeed?

Posted on by Jay Greene

On Feb. 18, the Show-Me Institute proudly presented featured speaker Dr. Jay Greene in conjunction with the Kansas City Public Library. His presentation, “Which Education Reforms Are Most Likely to Succeed,” is part of our successful continuing series with the library, “What Works in Urban Education.” Greene is a professor and head of the Department of Education Reform at the University of Arkansas. He holds a B.A. in history from Tufts University and an A.M. and Ph.D. in political science from Harvard University. Greene’s work has appeared in scholarly publications such as The Public Interest and City Journal, as well as popular outlets like the Wall Street Journal and the Washington Post.

Audio file — 1:25:50 — 78.5 MB (MP3)

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