David Prosser: Credit card lenders pass on their pain

Outlook: The best savings account deals are invariably open only to new customers these days
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The Independent Online

Most taxpayers know all too well that they are on the hook for the cost of bailing out the banks following the credit crunch. But Britons are being caught up in the fallout of the bursting of the credit bubble in more ways than they may realise: the revelation that credit card interest rates are at a 12-year high, despite the 350-year low at which base rates remain, is another case in point.

Why has the cost of borrowing on a credit card risen so high over the past few years? The most important explanation is that those borrowers who pay their bills responsibly each month are now being asked to compensate the credit card lenders for the increasing number of their customers who are defaulting.

All of the major lenders have reported increasing defaults since the recession took hold of the UK. The ratings agency, Fitch, calculates that, broadly speaking, each percentage point rise in unemployment leads to a one percentage point increase in defaults from prime credit card customers, increasing to 1.2 per cent for sub-prime customers. With unemployment having risen from just over 5 per cent at the beginning of 2006 to just under 8 per cent today, you can see the lenders' problem (and it may get worse, with some forecasters still betting on 10 per cent before this crisis ends).

What these higher credit card rates demonstrate, however, is that lenders have been very quick to share their problems with customers. The cost of all those unrecoverable debts is being passed on to other credit card borrowers. Something very similar has happened in the unsecured personal loan market, by the way, where rising defaults have significantly pushed up the cost of this type of credit too.

Maybe it is not so surprising that the banks pass on the cost of default to customers, but it does make you think again about their behaviour during the credit boom. When lenders were doling out money to all and sundry at the height of that credit bubble, their standard defence to accusations of irresponsibility was that it was not in their interests to lend money to people who couldn't afford to pay it back. Not true, it now turns out. If a bank knows it can recoup the losses it incurs from bad debt – or at least a good chunk of them – from loyal customers, then it doesn't have to worry quite so much about who it lends to in the first place. And it is clear that lenders' credit controls were pretty lax.

To add insult to injury, credit card customers are being made to pay for having had the temerity to take on the lenders. For years, borrowers who were charged fees of £35 or more for exceeding card limits or missing monthly payments fought a parallel case to the one that paralysed the current account sector before the High Court unexpectedly ruled in favour of the banks at the end of last year. Credit card customers were more successful: the Office of Fair Trading told lenders two years ago that charges of more than £12 were likely to be considered illegal, which cost the industry several hundred million pounds annually at a stroke.

That money is now being recouped in the form of higher interest charges. Again, lenders are asking their most responsible customers to compensate them for the losses they have incurred by no longer being able to charge excessively when less responsible borrowers break the terms of their accounts.

It's a curious business model that sees your best customers carrying the cost of those with whom you might be expected to have less interest in maintaining an ongoing relationship. But this has long been how the financial services market has operated: for years, for example, longstanding mortgage customers who didn't switch to a new lender paid through the nose to subsidise much more attractive deals that were offered to new customers. The best savings account deals are invariably open only to new customers these days, with introductory bonus interest payments available for a short period but off limits to existing account-holders.

It is no wonder that the Government is so keen to inject more competition into banking, using the break-up of Lloyds and the Royal Bank of Scotland as an opportunity to encourage the launch of enterprises that might challenge this model. The competition cannot come quickly enough for the long-suffering customers of our leading lenders.