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Why are credit card rates so high?

With credit card rates topping 20 percent for some customers, Charles in Ohio wants to know why consumers can’t get some relief. Unfortunately, about the only relief in sight is for the credit card companies.
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With credit card rates topping 20 percent for some customers, Charles in Ohio wants to know why consumers can’t get some relief. Unfortunately, about the only relief in sight is for the credit card companies, which won a big victory in Congress this week with a tough new law making it harder for consumers to wipe out debts in bankruptcy court.

Why is it that credit card companies can charge such EXTREMELY HIGH fees and interest rates while interest paid on savings -- of any kind -- are so low. Late fees of $39 and 14.99 to 22.99 percent interest is typical. In light of (savings) rates being so low, shouldn't credit card rates follow suit? Talk about exploiting the middle-class!

— Charles J., Canfield, Ohio

The simple answer is: card companies charge high rates because they can.

There are laws against what’s called "usury" at the state level which limit the percentage on loan rates (originally to prevent loan sharking). The credit card companies have had a lot of success getting these laws removed or raising the caps to ridiculously high levels.

And all it takes is one state: the industry also won a key court ruling that says the lending rate limit applies based on the state in which the card company is based -- not where the card holder lives. So the card companies went to states like North Dakota and said: raise your interest rate caps and we'll bring jobs.

The card companies' argument for such high rates is that credit card loans are unsecured -- unlike the loan on your house or car. If you don't pay your mortage, the bank can take your house. With a credit card, there's nothing to repossess. But if card issuers didn't routinely sell credit to people who can't afford to pay it off, they wouldn't need to overcharge every one else to make up those losses.

Now, with high rates crippling some household budgets and forcing families into bankruptcy, the financial services industry has come up with another fix: tighten up the bankruptcy laws. The new law, already passed by the Senate and approved by the House on Thursday, will make it much harder for people hit by job loss or big medical bills to declare bankruptcy and get a fresh start.

Why do we have such huge trade imbalances while the American dollar is dropping in value overseas? It doesn't make sense to me.
— Frank R.,  Salem, Mass.

Well, the two are definitely related.

It's a bit of an oversimplification, but one way to look at the link between the trade deficit and the value of the dollar is to track the flow of those dollars. Our trade imbalance is growing in manufactured goods becuase the U.S. economy is relying more and more these days on service jobs (everything from Wal-Mart cashiers to Hollywood scriptwriters) and less on manufacturing.  That's not necessarily a bad thing: as a country's economy becomes more developed, and its work force becomes better educated, those workers can generate more value with knowledge and ideas than they can from doing things like bending metal.

So we now have to buy more and more of our "stuff" from foreign producers. (A part of the current trade balance has nothing to do with this trend: imported oil counts as "stuff" -- so a big chunk of the imbalance is coming from the rise in oil prices.)

When we pay for all that stuff with dollars, those dollars leave the country. Eventually, they have to come home -- somehow. Since we don't sell as much stuff as we buy (that's the trade deficit) those dollars come back as investments: some as stocks or bonds of U.S. companies but mostly to fund our government's borrowing (Treasury notes and bonds). So the owner of the Chinese toy factory is lending those dollars back to Uncle Sam to pay for tax cuts and the war in Iraq. (Again, an oversimplification.)

If there are too many dollars out there waiting to be recycled, that surplus is one of many factors that can drive down the value of the dollar. Another factor: foreign lenders -- seeing no signs that the Congress is in the mood to stop borrowing -- begin to get nervous about ever getting their money back.

Rising rates
One way to drive the value of the dollar back up -- and make our Treasury bonds more appealing -- is to let interest rates rise. That's what the Fed is trying to do right now. But low interest rates have been a big reason the U.S. economy has had such a long run of relatively strong performance. The Fed's juggling act now involves trying to let rates gradually rise -- which helps to "defend" the dollar -- while not killing the goose that keeps laying golden eggs for U.S. consumers.

There are no guarantees it'll work. If it doesn't, we could get the "stagflation" of the 1970s that was created largely because of higher oil prices. (Sound familiar?) Once it got started, extreme measures like letting the dollar float and capping wages and prices weren't enough. It wasn't until interest rates hit nearly 20 percent in 1980 that the government broke the back of inflation and got the stock market and economy back on track.

So, how long are we going to be on this "economy seesaw"?  Didn't the bubble burst in 2000?  For the past 5 years there's been all this talk, talk, talk about the economy: one day the economy is great and the next day it's not. One person says one thing and somebody else says another.  Is the economy good or not?  
John C., Cheverly, Md.

It's a little hard to talk about the health of "the economy" because the U.S. economy is so big and diverse. Some industries do well while others suffer. Same with regions of the country.

But, with U.S. Gross Domestic Product growing at a little under 4 percent a year, the economy is in pretty good shape. One reason you may hear conflicting reports is that there are so many statistics used to measure the econony's health. At any moment in time, one may be up and the other one down. (That's why most economists look at trends over at least 3 months of data: the numbers just bounce around too much.)

And, in the end, it seems to us that the one statistic that really matters is jobs. If new jobs are being created, people have more money, they spend it, the companies that make the stuff they buy prosper and add more jobs, and round and round we go. If that process reverses, so does the economy.

By that measure, the economy is doing pretty well. Maybe not zooming along like the go-go 90s, but that kind of growth isn't sustainable and usually ends badly. So an economy that adds jobs about as fast as the work force is growing seems to us to be ideal. Which is about where we are right now.