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Opening salvo against credit card tricks?

An opening shot has been fired in the fight against sneaky credit card fees.

At least that was the impression Elizabeth Warren, one of the credit card industry's leading critics, had after a Senate Banking Committee hearing Thursday.

It's hard to say if it was a cannon shot across the bow or a smoke grenade, however. Fixing the flaws in credit card billing practices requires fundamental changes in consumer protection laws, and it remains to be seen how much of an appetite the new Democrat-controlled Congress will have for offending the industry, which packs a powerful lobbying punch supported by hefty campaign contributions.

Warren, a Harvard law professor and author of “The Two-Income Trap,” was one of a host of consumer advocates who undressed card-issuing banks at the hearing, accusing them of a myriad of unfair tactics. High interest rates are just the beginning, Warren said. Late fees, over-limit fees and other "tricks and traps" can hit consumers with effective interest rates of over 115 percent, she said.

"Credit cards are unsafe ... because they are designed to be unsafe," she said. Card issuers make hefty profits from consumers who don't make their payments in full every month, so card issuers are constantly looking for the "sweet spot: Consumers who stumble but don't quite collapse" into bankruptcy, she said.

Few of the complaints about tricks and traps of the industry were new.

But it seems significant that the new Democratic committee chair, Sen. Chris Dodd of Connecticut, chose credit card marketing practices as the subject for only his second hearing as chairman.

Execs on the hot seat

Clearly, the three credit card executives in the room from JPMorgan Chase & Co., Barclaycard US, and Capital One Financial weren't terribly comfortable. All three disavowed common industry practices like universal default and double-cycle billing, a practice JPMorgan Chase just ended recently.

In universal default, card companies regularly check cardholders' credit reports and raise interest rates if the consumer is late on other monthly bills. Double-cycle billing is a confusing practice that allows card firms to retroactively charge interest rates on purchases even after they are partially paid for.

Warren said one in every seven dollars of revenue generated by the industry comes from fees or interest charges that in some cases "it's hard to believe any reputable business would charge."

The credit card market is "broken," Warren said, and in need of regulation that protects consumers akin to product safety laws that regulate automobiles or toasters.

"No one needs to be an engineer to buy a toaster. No one needs to be a crash test scientist to buy a car," she said. "And no one should need to be a lawyer to take on a credit card."

Credit card executives broadly accepted the need for improved disclosure, but didn't budge much beyond that. Fees and interest rates are low for consumers who pay their bills on time, they argued, and credit is more widely available today than ever.

Debate on card company practices can be as confusing as one of those 30-page card-member agreements -- heavily lawyered and full of half truths.

At one point, Richard Vague, CEO of Barclaycard US, asserted that as few as 1 percent of cardholders made only the minimum payments on their card balances every month.

But close to one-third make payments very near their minimum balance each month, said Travis Plunkett, legislative director of the Consumer Federation of America. And Warren said on any given month 20 to 25 percent of consumers make only the minimum payment.

Meanwhile, Capital One's John Finneran, president of corporate reputation and governance, bragged about a tool the firm has to warn consumers of the dire consequences of making only the minimum payments on credit cards. A warning is inserted into customers’ bill, he said, urging them to visit a Web site with a calculator that shows the total amount they'll owe if they continue to pay only the minimum.

He didn't mention how many consumers actually read the notice, then visited the Web site and played with the calculator. He also didn’t mention putting the total cost of payments, a standard fixture on home loans and car loans, on the actual bill sent home to consumers.

The American Bankers Association did not send a representative, but left an information sheet for reporters bragging about the current state of consumer credit card benefits. Fifteen years ago, the sheet asserts, the average credit card interest rate was 20 percent; now it's 12 percent. And fifteen years ago, most cards had annual fees -- now, very few cards impose such fees.

"Consumer fee levels have remained under control," the fact sheet says.

That's hard to square with the explosive increase in credit card penalty fees -- $17.1 billion collected in 2006, according to a report by R.K. Hammer, and cited Thursday by Dodd. And the interest-rate assertion doesn't factor in the overall cheaper cost of credit today than during the recession of 1991.

The credit card fee debate is of little interest to about half the population, which pays its bills in full each month. Such consumers know little of over-limit fees, double-cycle billing, and the like. But some 50 millions Americans don't pay their credit card bills in full each month and face hefty fees.

The penalty fee issue is critical. Most consumers compare credit cards based on advertised interest rates and perks, said Plunkett. Few if any think enough to compare late fees, over-limit fees, and the like when choosing their credit card. In fact, such comparisons may not be possible. The fees are hard to find, and they can change at any time. That means economic forces that would normally keep such prices in check are not at play.

"The market is broken," Warren asserted. "If the consumer can't tell a safe card from a dangerous one, then the marketplace will not reward the safe card issuer."

Sen. Robert Bennett, R-Utah, seemed incredulous at this, and asked the credit card executives present -- who had disavowed some controversial fees - why they wouldn't advertise their fee-free qualities.

"It seems (you) would want to make it a competitive advantage," he said.

The same old tricks

But low up-front pricing followed by confusing back-end fees is a standard trick of American pricing now. Consumers never respond to reverse advertising that suggests, "We won't screw you like the other guy." They respond to price points. In fact, companies that don’t charge hidden fees are often penalized in a regulatory environment that allows them.

In a landmark economics paper published last year called "Shrouded Attributes, Consumer Myopia, And Information Suppression In Competitive Markets," MIT professor Xavier Gabaix and Harvard professor David Laibson described the inevitability of hidden tricks and traps in today's marketplaces. Bennett and any other legislator interested in helping consumers get a fair deal from credit card companies would do well to read their paper.

Robert Manning, author of “Credit Card Nation,” who also testified Thursday, was skeptical that sweeping reform was in the offing. Instead, he expects a law that bans some of the industry's more unsavory fees -- many, like universal default, have been fallen out of vogue anyway.

It should be obvious that middling legislation won't work, as credit card fee-makers will simply go back to the drawing board and cook up new and ingenious traps for taking money. Only a comprehensive law that requires clear, up-front pricing will do any good.

Warren, who argues "The Two-Income Trap" that American families now live closer to the financial edge than ever before, was much more optimistic. Senators from both sides of the aisle are now seeking her counsel, she said. And credit card firms seem to be backing off on some issues.

In the last legislative session, Dodd, introduced legislation to reign in fees called the “Credit Card Accountability Responsibility Act.” The law would ban some excessive interest charges and fees. As banking chairman now, it’s reasonable to expect some form of the bill will make be approved by the committee.

But Warren warned that Congress must act soon. A slowdown in the housing market, combined with the new, tougher bankruptcy law which took effect last year, could soon put the squeeze on credit card debtors.

"It's time for safety regulation in credit cards," she said. "Fifty-one million Americans need your help, senators, and they don't have much time."