More Cards In The Deck

The last barriers protecting the once formidable credit-card oligopoly are crumbling, and the invaders are streaming through the gates.

On Dec. 2, Visa USA Inc., a consortium owned by banks, dropped its long-standing effort to prevent financial institutions owned by nonbanks from issuing Visa cards. Visa's move, coming in the wake of a political storm over high credit-card rates and lax competition among card issuers, will accelerate the efforts of large consumer-products companies to get into the lucrative credit-card business. AT&T, General Motors, General Electric, Ford Motor, Prudential Insurance, and Fidelity Investments have already launched card operations.

The eventual result is likely to be a brutal shakeout. Banks, which have been relying on hefty credit-card profits to offset loan losses, will probably be the losers. "It will be harder for big banks to compete, and nonbanks will become major players in the Visa and MasterCard system," says Spencer Nilson, publisher of The Nilson Report. MasterCard International Inc., the other card consortium, had earlier relaxed its rules barring nonbank members.

POWERFUL WEAPON. Although the Visa action is important, the major factor now eroding banks' domination of the credit-card business is growing awareness among consumers of the lofty interest rates card companies charge on outstanding balances. Those interest rates give interlopers a powerful weapon to pick up market share in a hurry. "There is going to be a major increase in competition among bank cards. Now there is a lever that can be pulled -- interest rates," says Kenneth L. Chenault, president of American Express Co.'s U. S. consumer card group.

The most dramatic example is American Telephone & Telegraph Co., which picked up 12 million customers in less than two years by eliminating the annual fee and charging a slightly lower rate than most big bank issuers. A survey of 30 issuers by RAM Research in Frederick, Md., from Dec. 31, 1990, to June 30, 1991, found that those banks charging above 18% lost 5% of their active accounts, while those charging rates under 16.5% gained 10%. "That's the first time we've seen that," says Robert B. McKinley, publisher of CardTrack, a newsletter from RAM Research that lists no-fee and low-interest-rate card issuers. "Callers used to ask: 'Where can I get a free card?' Now, 3 to 1, they're asking: 'Where can I get a lower rate?' "

For years, consumers were remarkably indifferent to credit-card pricing. While they were aware of annual fees, few paid much attention to interest charges on outstanding balances. Most bank issuers charge 18% and more, even though the prime rate has fallen from 15% in 1982 to its current 7.5%.

Consumers' rate consciousness has been raised by the gradual phaseout of tax deductions for credit-card interest expenses. But what really brought the issue home to the public was the brouhaha in Washington over credit-card rates. On Nov. 12, President Bush tried to demonstrate his concern for the faltering economy by asking banks to lower credit-card interest rates. Smelling a populist issue, the Senate passed a measure to cap credit-card interest rates the next day. Bank lobbyists squelched the bill after arguing that the 14% cap would force banks to withdraw credit cards from 60 million Americans with less-than-stellar credit histories. But credit-card rates have now emerged as a grass-roots issue. "The level of criticism and competition helps. Yet it is consumers that will drive rates down by voting with their cards," says McKinley.

NO PUSHOVERS. Aware that nonbank interlopers could provoke price competition, Visa and MasterCard for years tried to limit their membership to banks. MasterCard, which was losing share to Visa, relaxed its rules last year, but the more powerful Visa held fast. AT&T mounted a challenge in March, 1990, by issuing MasterCard and Visa cards through an entity that owns Universal Bank, a small Georgia institution that is a Visa and MasterCard member. Banks and regulators tried to stop AT&T, but to no avail.

Visa's recent move to open the doors to nonbanks was clearly prompted by pressure from Washington. Next spring, the House banking subcommittee on consumer affairs and coinage will take up a bill that would order a study of rates and competition among credit-card issuers. If the market is deemed uncompetitive, the measure would authorize a floating cap -- which today would be set at 14.5% -- on card rates.

The nonbanks that are lining up to take on the banks are not pushovers. Few of them market credit cards to the general public, but many already have extensive card operations and potent name recognition.

Take Ford Motor Co. In 1989, it bought Associates Corp. of North America, a Dallas-based financial company. Associates now offers a Visa and MasterCard emblazoned with the Ford logo. With only 3 million cardholders, Associates is still a small player. But Ford has bigger ambitions. It is starting to tap the 20 million Ford customers, shareholders, and employees. In June, it sent out 500,000 credit-card solicitations to people who bought a Ford car or truck in the past three years -- and signed up more people than anticipated. "We are trying to make the Ford card as competitive as we can," says Kenneth Whipple, president of Ford's Financial Services group.

General Motors Corp. is another likely contender. Although the auto maker denies any intention of getting into the consumer credit-card business, it recently replaced employees' American Express Cards with a GM MasterCard and hired a senior credit-card marketer. Observers speculate that it will announce its own Visa and MasterCard in early 1992 and use it to boost customer loyalty. The card might accumulate credits toward the purchase of a new GM vehicle, as miles accumulate in a frequent-flier program.

FIGHTING BACK. Fidelity Investments has already attracted 6.2 million customers with its MasterCard and has launched a marketing campaign for a no-fee gold card. "It's part of our push to be a full-service financial services firm," says a spokeswoman.

Banks are fighting back. Citicorp and MasterCard have set up special units to help them retain cardholders who try to switch to nonbank issuers. "AT&T does reach out and touch everybody," says Thomas C. Lynch, who runs Chase Manhattan Corp.'s credit-card operation, the No. 2 card issuer.

Increasingly, banks are coming to realize that they have no choice but to lower interest rates. Sometimes the cutting is covert. Customers these days are often finding that they are able to bargain for better rates with issuers, especially when they threaten to cancel their cards.

Other banks have developed tiering or market segmentation strategies. The bigger banks, which have been resisting across-the-board rate cuts because of their dependence on credit-card earnings, are offering reduced rates to their better customers. First Chicago Corp., the fourth-largest issuer, is cutting rates charged customers with good credit histories to only 6.9% over prime, vs. 9.9 % over prime for most of its clientele. Preferred new customers of First Chicago's Visa card are getting a 15.6% rate with no annual fee.

A few banks are cutting rates to all comers. On Nov. 5, Banc One Corp., the 14th largest issuer, announced a new no-frills card with a 13.9% annual rate and a $25 annual fee. Many observers feel that growing price competition will provoke a severe shakeout among the weaker players, chiefly banks. "Profits in the industry are going down," says Scott Marks, chairman of FCC National Bank of Wilmington (Del.), which issues First Chicago's Visa cards. Many medium-sized banks may find it easier to sell off their credit-card businesses to such ambitious outsiders as Ford.

Look at what's happening in New England. Three of the region's largest banks -- Bank of Boston, Shawmut National, and the former Bank of New England -- sold their credit-card portfolios in the past two years to raise cash. A fourth, State Street Boston, bailed out after deciding it couldn't compete. Fleet/Norstar Financial Group is the only major bank in the region with a sizable credit-card operation.

The shakeout is bound to be very painful to the banking industry, but it will be a boon to consumers. As long as consumers keep voting with their cards, Congress should just sit back and watch credit-card interest rates fall.

Before it's here, it's on the Bloomberg Terminal.