I would like to thank Chairman Spencer Bachus for providing this opportunity to share my views with the Committee on the increasingly important topic of credit card industry policies and the protection of consumer rights under the Fair Credit Reporting Act. I would also like to commend Ranking Member Bernard Sanders for his efforts in protecting consumers from deceptive marketing and contract disclosure practices of the credit card industry. The twin issues of rising consumer debt and shockingly low levels of financial literacy have grave implications to the continued economic well-being of the nation—especially as Americans cope with these increasing perlilous economic times. For these and many other reasons, I commend the Subcommittee for accepting the daunting task of examining the increasingly serious problem of protecting consumer rights in this period of the rapid deregulation of the financial services industry.

As an economic sociologist, I have spent the last 16 years studying the impact of U.S. industrial restructuring on the standard of living of various groups in American society. Over the last 11 years, I have been particularly interested in the role of consumer credit in shaping the consumption decisions of Americans as well as the role of retail banking in influencing the profound transformation of the U.S. financial services industry. In regard to the latter, I have studied the rise of the credit card industry in general and the emergence of financial services conglomerates such as Citigroup during the deregulation of the banking industry beginning in 1980. In terms of the former, my research includes in-depth interviews and lengthy survey questionnaires with over 800 respondents in the 1990s. The results of this research are summarized in my recent book, CREDIT CARD NATION: America's Dangerous Addiction to Consumer Credit (Basic Books, 2001). More recently, I have collected survey data from a case-study of a midsized public university based on a representative sample of nearly 800 college students in 2002. Some of the key findings of the study are reported in this testimony. In addition, I have become actively involved in the national movement to improve the financial literacy/education of our youth. My work with colleges, universities, and student loan organizations has inspired my own internet-based financial literacy/education program at www.creditcardnation.com. My next book, GIVE YOURSELF CREDIT: The Power of Plastic in the Credit Card Nation, includes my most recent work on several consumer

protection cases regarding credit card industry policies as well as my recent surveys on college students.

Banking Deregulation:

From Community Banks to Financial Services Conglomerates

The recent revolution in consumer financial services dates to the 1970s with the increasingly successful assaults against Depression-era banking regulations. For example, the 1933 McFadden Act essentially limited national banks from crossing state boundaries and competing with state-chartered banks. These interstate branch banking restrictions protected the local community banking system and its conservative (asset secured), fixed term “installment" lending policies until the 1980s. Significantly, the best customers of these local banks were those with the lowest outstanding debts whom were most likely to repay their loans within an agreed upon period of time. This is significant today in terms of reviewing the profound changes in the credit screening process and risk assessment models of retail consumer services. That is, the best clients in the regulated, community banking system (pre-1980) were those with low debt-to-income ratios who most likely to repay their loans in-full within a specified period of time.

By the late 1970s, high inflation together with declining real wages encouraged American families to begin embracing consumer debt as a rational strategy for coping with intensifying financial pressures. State usury laws and interstate banking restrictions, however, limited the profitable growth of the universal or "all-purpose” national bank credit card until the 1978 U.S. Supreme Court decision, Marquette National Bank of Minneapolis v. First of Omaha Service Corporation. See Chart 1. For the first time, a nationally chartered bank was allowed to charge the highest interest rate permitted by its "home" state and essentially export these rates to its out-of-state credit card clients. By simply relocating its “bricks and mortar” office to states without consumer usury rate ceilings--Citibank immediately moved from New York to South Dakota--the universal credit card (led by Visa and MasterCard) was transformed into a high profit financial service product that could easily surmount banking barriers. Today, 29 states do not have any limits on the interest rates charged by in-state, credit card issuing banks (Lazarony, 2002).

The universal bank credit card played a major role in the de-regulation of the U.S. banking industry in the 1980s. National "money center" banks faced mounting losses on Third World, residential and commercial real estate loans following the 1981-82 recession as well as the loss of low-cost depositors funds with the end of Regulation Q's fixed passport savings rates. Although Citibank's credit card division lost over $500 between 1979 and 1981, this transitionary period belies the dramatic increase in its profitability following the 1981-82 recession. The sharp reduction in inflation and rapid advances in computer processing technologies underlie the dramatic increase in the profitability of "revolving" loans in the mid-1980s (Nocera, 1994; Manning, 2000). Over the next two decades, these trends precipitated the shift to consumer or “retail” financial services as increased competition through banking "de-regulation" produced higher cost "revolving" or credit card loans. Indeed, the decline in less profitable corporate loans (corporations raise capital directly by selling bonds via Wall Street) contrasts sharply with the rising demand for unsecured, consumer loans; an annual average of 1 million blue-collar workers lost their jobs in the 1980s.

The consumer services revolution shifted into high gear in the 1980s as soaring credit card profits (Asubel, 1991) fueled the unprecedented consolidation of the banking industry. In 1977, for example, the top 50 banks accounted for about one-half of the credit card market (Mandell, 1990). Today, the top 10 banks control over 80 percent of the credit card market (Card Industry Directory, 2002). See Table 1. In the process, "net" revolving credit card debt has climbed from about $51 billion in 1980 to over $610 billion in 2002. And, over one-half of outstanding credit card debt is resold in the secondary financial markets as securitarized bonds-at a typical premium of about 18%. This recent trend reduces the risk to credit card issuers (by complex corporate subsidiary structures and complicated insurance schemes) and increases the institutional demand for new "revolving" loans.

Significantly, the re-sale value of unsecured credit card debt has continued to rise during the current recession even though the credit card industry has argued that consumer account default and delinquency rates are hurting its profitability. According to Business Week, thirty-seven major credit card portfolios (totaling about $37 billion) were sold at an average premium of 18.4% in 2002 and twenty deals ($4.1 billion) have

averaged 18.99% in 2003. The reporter noted that this impressive premium for unsecured consumer debt was rising "despite high delinquency rates, rising unemployment, and escalating bankruptcies that heighten their risks" (Weber, 2003:70).. The result is the industry has intensified marketing campaigns to recruit new customers and encourage higher household debt levels. In the process, these industry pressures have profoundly changed the credit card industry's "pre-screening" policies and preferred client characteristics.

The industry's effort to increase its "revolving" debt portfolio is illustrated by the enormous increase in credit card solicitations and extended "lines" of revolving credit. For example, BAI Global reports that between 1997 and 2001, the number of mailed credit card solicitations rose 66.7 percent: 1997 (3.0 billion), 1998 (3.4 billion), 1999 (2.9 billion), 2000 (3.5 billion), and 2001 (5.0 billion). During this period, however, consumer response rates to these mass mailing declined from 1.3% in 1997 (3.9 million applications) to 0.6% in 2001 (3.0 million applications). Significantly, the reduction in the annual growth rate of the credit card industry's client base has fueled issuers' efforts to increase the debt "capacity" of their accountholders by raising available lines of credit. For instance, credit card debt (gross) rose 31.8% between 1997 and 2001 (from $554 billion to $730 billion) whereas total revolving lines of credit card jumped 75.0 percent from $1.667 billion to $2.917 trillion. The enormous increase in extended credit belies consumer demand as utilization of the revolving lines of credit dropped from 33.2 percent in 1997 to 25.0 percent in 2001. This trend continues today as consumer credit card debt declined during the first quarter of 2002 and yet aggregate revolving credit rose $262 billion (US Federal Reserve Board, 2002 and Veribanc Inc, 2002 as cited in CFA, 2002).

Not surprisingly, the credit industry began aggressively marketing previously neglected, economically marginal consumers in the 1990s. Significantly, the screening process essentially turns on its head the screening criteria for marketing to traditionally neglected groups such as college students and the working poor. That is, these potential clients were screened based on their underutilized “debt capacity” and the industry's assessment that they would be unlikely to payoff their debts in the near future. For example, the longitudinal Survey of Consumer Finance (conducted by the University of Michigan) shows that the largest increase in consumer credit card debt is among households with a reported annual income of less than $10,000. Between 1989 and 1998,

the average credit card debt among households that revolve their credit card balances increased a moderate 66.3 percent versus 310.8 percent for the poorest households-from $598 in 1989 to $2,440 in 1998. Similarly, households headed by seniors (over 64 years old) experienced a dramatic increase of 140.9 percent, from $1,497 in 1989 to $3,607 in 1998 (reported in Draut, 2003; Manning, 2003b). See Table 2.

The aggressively marketing of college students has been reported elsewhere (PIRG, 1998; 2000; Manning, 1999; Manning, 2000:Ch. 6; 2002) with growing attention to the poor financial literacy of America's youth (Mandell, 1998; 2000; 2002; Manning, 2002). What is striking is the acknowledgement of the credit card industry is that college students are a desirable market because of their ignorance of personal finance and their lack of consumer debt. As shown in Table 3, the marketing of credit cards has shifted rapidly over the last five years from college upperclassmen to college freshmen and high school seniors. More significantly is the recognition that student consumption has a large debt component that is increasingly financed by family loans, federally subsidized student loans, summer earnings and part-time employment during the academic year, and even with other credit cards. As shown in Table 3, three out of five students with credit cards in our survey had already maxed them out during their freshmen year and, 3 out of 5 freshmen with multiple credit cards were already using bank cards to pay for other revolving credit accounts. Furthermore, this survey reveals that nearly three-fourths of students use their student loans to pay for their credit cards. Not incidentally, recent studies indicate that this indiscriminate marketing to college students has led to high incidences of fraud and identity theft among this young adult population.

Assessing the Deregulation of Consumer Financial Services:

Soaring Profits and Spiraling Costs

Not surprisingly, the credit card industry has reported record profits this year. According to the most recent FDIC report (June 2003) on bank profits, [First Quarter 2003] "is the largest quarterly earnings total ever reported by the [banking] industry... [and] the largest improvement in profitability was registered by credit card lenders [with] their average Return-On-Assets (ROA) rising to 3.66 percent from 3.22 percent a year earlier." The extraordinary profitability of consumer credit cards is illustrated by comparing the ROA of credit card issuers with the overall banking industry. According to the FDIC, the increase in the ROA for the banking industry rose from 1.19% in 1998 to 1.40% in 2003 (First Quarter) or 17.6%. According to the U.S. Federal Reserve