A lack of ability to assess financial costs and benefits seems to be behind most people choosing a credit card that isn't right for them. Optimism bias is at work here too

By David Chaston

In a new analysis a Reserve Bank of Australia researcher has been trying to figure out whether credit card holders get any benefits from these 'plastic' tools, or whether it costs them.

In fact most consumers do not hold a credit card that is particularly well suited to their use patterns.

She found that 40% do get benefits, 30% break even, and for 30% the costs outweighs the benefits.

Rather than doing a proper search for a suitable card, the research showed consumer decisions on card selection are systematically biased, leading people to select higher-cost credit cards when lower-cost alternatives are available or better suited.

Of the group that do get net benefits, the study found these are people with higher wealth and higher incomes. These people receive benefits from rewards points and their interest-free period that outweighs annual fees and interest payments.

But even these people include many who could get a better deal with a more appropriate card product.

But most don't get benefits or have cards that are a bad deal.

The reasons seem to be complex and behavioural.

Many people appear to suffer from optimism bias, underestimating how much they will borrow on their card. Some of them tend to hold inflated estimates of the net monetary benefits that they receive from their card.

Around half of those who made a bad financial choice of cards held high-cost cards, and worse, they had not considered switching to a lower-cost card. Clearly they didn't have the nous or willingness to even investigate switching cards.

The evidence is that these behavioural biases influence consumer credit card choice in adverse ways. And the findings also support suggestions that these biases appear to explain an apparent lack of competition in credit card interest rates - that is, even when lower interest rate cards are on offer, the consumer biases don't show a choice towards them based on the cost savings - so card companies are safe leaving rates high.

Credit cards provide a convenience to consumers, acting as both a method of payment and a flexible credit instrument. You would expect to pay something for this convenience. But the analysis of more than 1000 credit card holders in this survey shows most people pay way too much for what they get.

The full analysis is here.

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10 Comments

In my opinion credit cards are great tools as long as they never cost you money. I think it's reasonable to expect to pay nothing in return for the bank having your transaction business, from which they make money. That said it doesn't much matter which one you choose.

In Japan, the concept of a "credit card" was always that of a "debit card" in a NZ context. That way, the card never really costs you anything, as long as your bank account funds are adequate. I only have an ASB debit card (as a non-resident of NZ, there is little need for a credit card), but no idea how they actually work these days.

David, IMO the idea that people don't bother to take time choosing their credit cars well or pay them off on time can be extended to all financial decisions, like budgeting the household or getting a mortgage. It has been said on this website that banks "shove mortgages down borrowers throats". I disagree with these types of statements, we are all responsible for our own financial health, this is not a matter of wealth, it's a function of our financial discipline which RESULTS in having more or less $

"Of the group that do get net benefits, the study found these are people with higher wealth and higher incomes"

Interesting comment, although not surprising. The question is which is the cause and which is the effect? Do people reap the benefits because they are wealthier or are people wealthier because they are good with their money? A bit of both?

High spend = more rewards. If the value of the rewards and TVOM is greater than the annual fees then you win as long as you pay off the full balance on time every month.

Lower income = lower spend OR unable to pay off the balance each month.

So higher wealth or higher income allows you to reap the rewards. If you're disciplined. (A bit of both as you say)

I get what you say but I still think it's about discipline more than wealth. You say lower income = unable to pay the balance in full. I reply (brutally) then spends less on the card, because if you cannot repay your card in full you will pay 20% interest, then the following month it will be even harder to repay the card and it's a loosing downward spiral.
No matter how much or how little you earn: SPEND LESS THAN YOU EARN

Spot on dude

There will obviously be a range of situations. But don't disregard the situations where the starting point into the downward spiral might be a broken car, whiteware, large ticket item. And living week by week there's no emergency fund on hand. What are you going to do?

With balance transfers, consumers can access & carry debt at 0%, 1.9% or long term at 5.95% interest.
Which may be a better deal than a mortgage top-up for house renovations etc.

Farmlands is the best one for renovations as you get trade prices at the big hardware stores.