Risk of credit card default in Ireland intensifies

US consumers are bearing a personal debt burden in excess of €1,732 billion and the IMF estimates that over €240 billion of this will not be repaid.  The credit crisis there started with sub-prime mortgages then moved to mainstream mortgages, car loans and, most recently, to credit card debt.

There has been an increase in US credit card debt default as unemployment there rises to over 9%.  The incidence of credit card debt default in the States typically mirrored their unemployment level.  The personal debt default trend in Europe is also deteriorating but has not been as severe as in the US.

The ratio of consumer debt to income has been rising to about 140% in the US.  It hovered around the 90% mark in the last recession.

This begs the question – what is happening in Ireland?  Irish politicians usually attempt to put the best possible spin on a glaringly adverse trend, with remarks such as “the rate of deterioration has slowed”.  It is true that the level of personal credit card debt in Ireland has declined as consumer confidence has waned and retail sales levels have collapsed by over 20% in the case of the high street and by over 60% in the case of vehicles.  However, the number unemployed has risen dramatically and if defaults by Irish credit card users were to mirror the American experience, credit cards providers will be seeing a growth of over 100% in irrecoverable debts, as the following table illustrates:

End Feb	Personal credit card debt	Number unemployed	Unemployment Rate	Debt default risk
2009	€889.5M	222,800	10.2%	€88.95M
2008	€1,092.6M	109,400	4.9%	€53.53M
2007	€1,008.1M	98,100	4.5%	€45.36M
2006	€870.9M	88,200	4.4%	€38.31M

 

The Central Statistics Office reported on 25 June that employment in Ireland had fallen by 7.5% in 2009 to 1,965,000 persons.  Full-time employment dropped by 176,200 in the past year.  The decline in the Irish labour market is being attributed to a decline in participation by 46,000 persons.  There is also a demographic aspect.  The Irish  labour force has grown through net inward migration which reached a peak in early 2006 when the labour force growth was over 100,000 persons and 70,000 of this was accounted for by immigrants.  There is now a lower level of net inward migration.

Business Exposure to Indebted Consumers’

Businesses are being obliged to pay much greater attention to the risks associated with customers dependent on credit and how to manage exposure to this.   Three benchmarks to keep track of include the ratio of credit sales to cash sales, gross profit and operating income.  The objective is to moderate the consequences of any change to a customer’s credit position.  Studies have demonstrated that credit card sales are more volatile as a consequence of changes in credit limits; transactions fees that can rise as defaults rise and these are borne by traders.  If a credit card processor should go out of business the risk accruing to traders will increase.  If the proportion of credit card users who default that a particular business does business with becomes disproportionate the risk borne by the trader increases.

It would be clearly absurd to abandon credit card sales but it is important to consistently monitor associated risk and volatility.

Is Ireland a nation of credit card junkies?

The popularity of plastic money has increased enormously in Ireland. The number of personal credit cards in use has increased over the five years since February 2004 by 21½%, similar to the percentage increase in the labour force between then and May 2008.

But personal credit card indebtedness, according to Monthly Statistics for February 2009 issued by the Central Bank, has increased by a massive 70% over these 5 years and now amounts to €2,896,700,000. Credit card indebtedness over the past 12 months has increased by €119.4 million, or just 4.3% since February 2008, so the current credit squeeze has not accounted for the bulk of this overall increase of almost €1.2 billion since February 2004. We are now spending less and repaying less, but owe more.

Credit cards offer many attractions, including the relative ease with which personal unsecured debt can be accrued. Some people use them as a cash substitute while others avail of the opportunity for a revolving, if a relatively expensive credit facility. They also, of course, offer a means to readily obtain cash at ATM’s.

Advances in internet technology, together with the evolution of the European single market, has spurred the growth of internet commerce in Ireland. One of the impediments that Irish consumers faced was that retailers did not enjoy the benefit of economies of scale because the Irish market was relatively small, choice was limited and prices expensive. But that impediment is now overcome as consumers can easily shop throughout the European Union for items of interest and these can be delivered to them in Ireland at a reasonable cost. Many regular service providers also encourage the use of electronic payment systems for a whole host of products and everyday services.

Retail sales in Ireland contracted in 2008 by 20%. Tax revenue dropped by 19% in January, compared to January 2008. New monthly spending by personal credit card users dropped by 18.3% to €766.4 million and monthly payments by personal credit card holders dropped by 15.8%, or €157.9 million in February 2009, compared to February 2008. The number of personal credit cards currently in issue is 2,212,000, just 1.6% more than a year previously. Depsite such a significant drop in new monthly spending and monthly payments that corresponds to the overall drop in retail activity, the total level of credit card indebtedness has increased by €119.4 million (4.3%) in the year to February.

The average indebtedness per personal credit card in Ireland is €1,310. Credit card holders typically make a monthly payment of €380 but spend slightly less, €346, each month.

Credit card trends and spending patterns have to be seen in the context of general economic trends.

The severity of the economic downturn is reflected in the most recent Live Register statistics. These are not designed to measure unemployment because they include part-time workers, who work up to 3 days each week, seasonal and casual workers entitled to Unemployment Assistance or Benefit. But, nevertheless, the trend is awesome and worrying, not just in the context of paying credit card debt but also, of course, in securing a stable livelihood.

The number on the Live Register in March 2004 was 168,880, an increase of 821 over a 12-month period. The seasonally adjusted total number under the age of 25 years on the Live Register in March 2004 was 32,900.

The number on the Live Register in March 2009 was 371,271, an increase of 173,279 over the most recent 12-month period. The seasonally adjusted total number under the age of 25 years on the Liver Register in March 2009 was 79,700.

The credit card industry emerged from the long-established practice in the United States of hotels and merchants providing customers with paper indetification cards for the purpose of doing business with that particular firm.

The credit card, as we know it today, made its debut in New York in 1950. Diners Club became the first all purpose credit card, which, of course, allowed the cardholder to use the card at multiple businesses. The Bank of America ‘BankAmericard’ arrived in 1958. American banks were not allowed to operate outside their home state and this would have been a constraint on the development of the credit card business so Bank of America set up a separate entity known today as Visa and it became an association controlled by its member banks' and financiial institutions'. It was 1966 before Master Card was created. Today both cards account for 70% of the world credit card market. The American Express charge card also emerged in 1958 - the difference being that all money outstanding has to be paid in full at the due date each month. Larger retailers were reluctant to accept credit cards at first - but smaller retailers considered that they offered them a competitive advantage against their larger rivals.

Visa and Master Card are associations owned by member financial institutions worldwide – 16,400 in the case of Visa and 23,000 in the case of Master Card. Last year Visa processed €2.3 trillion in payments covering 55 billion transactions by 1.7 billion card users.

Master Card processed 21 billion transactions used by 981 million card holders. Apart from processing transactions and having sophisticated technology platforms to mitigate fraud, both entities offer insights into consumer behaviour and buying trends. Neither issue cards, set annual fees, determine annual percentage rates on cards or solicit merchants to accept cards. The customer’s bank deals with these matters. Boards of directors are elected by member firms based on a voting system that is correlated to the transaction volume of particular banks.

The credit card industry is considered mature because such a high proportion of the population are users, sometimes of several cards concurrently. The original credit card family now includes debit cards, charity cards, special cards for discrete subsets of customers such as high net worth individuals and the promotion of loyalty points. But one of the big issues for credit card issuers is the reduction of interchange fees and the impact of these on competition. Larger merchants can negotiate lower fees. The issue of fraud, identity theft and the obligation to secure confidential information also exercises this industry.