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Well, as i have already claimed, i have limited knowledge on finance, but i do try to learn more things. Now, it's the de facto thing that banks love to lend money.

As i see it, with a debit card, they are taken kinda out of the game. They are not lending money, it seems really bad for them. On the other hand, it's definitely good for individuals.

But, why do we really need a credit history to buy some of the more expensive stuff ? Well, i foresee people mentioning the argument of being a less risky buyer.

However, when i buy something, i don't see why the seller HAS to know that i'm good at paying loans back. To me, all this credit card system seems like an awfully nice way to make loads of money, backed by governments as well.

But, am i thinking it correctly ?

SpyrosP
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  • When have you ever needed to provide credit history in order to buy something without taking out a loan? I've only needed it in a situation where I was borrowing money, or signing up for a service where they would be billing me (instead of my paying in advance). – Chuck van der Linden Jul 08 '11 at 15:12
  • In the U.S., to rent an apartment you need credit history :) – SpyrosP Jul 08 '11 at 16:16
  • The seller doesn't need to know that you're good at paying loans back, but the person lending you the money (the credit card company) sure would like to know. –  Jul 08 '11 at 16:17
  • @fennec, that is exactly the point. Needing a third party for even the simplest purchase. – SpyrosP Jul 08 '11 at 18:25
  • @SpyrosP - you don't need to use credit cards, noone is forcing you, you can always pay cash. – littleadv Jul 11 '11 at 01:47
  • @SpyrosP - An apartment is a contract between two parties that is very similar to a loan -- the landlord wants payments through the full lease cycle. Requiring credit data isn't necessarily a requirement, although many landlords want one. I rented primarily from individual landlords (not big companies) and they wanted landlord references. – duffbeer703 Jul 11 '11 at 02:13
  • @littleadv, you are wrong. Not having credit history, at least here in U.S., is a great obstacle to lots and lots of purchases. If you don't have a decent one, you cannot buy. Example is simply renting a house. You need to make credit card purchases in order to rent a house. – SpyrosP Jul 11 '11 at 03:06
  • as already stated, renting a house is a bit of a different transaction than simply 'buying something' especially since it's very rare to find a rental that is pure month-to-month. Most want at least a 6 month or year commitment where you will owe them the rent every month even if you move out etc. So they want to know if you have a good history of paying your bills on time etc. and there are ways around that, such as cosigners, for someone who is young and has not established a credit history. – Chuck van der Linden Jul 11 '11 at 06:50

2 Answers2

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As i see it, with a debit card, they are taken kinda out of the game. They are not lending money, it seems really bad for them.

Not exactly. It is true that they're not lending money, but they charge a hefty commission from the retailers for each swipe which is pure profit with almost no risk. One of the proposals considered (or maybe approved already, don't know) in Congress is to cap that hefty commission, which will really make the debit cards merely a service for the checking account holder, rather than a profit maker for the bank.

On the other hand, it's definitely good for individuals.

I disagree with that. Debit cards are easier to use than checks, but they provide much less protection than credit cards. Here's what I had to say on this a while ago, and seems like the community agrees.

But, why do we really need a credit history to buy some of the more expensive stuff

Because the system is broken. It rewards people in debt by giving them more opportunities to get into even more debts, while people who owe nothing to noone cannot get a credit when they do need one. With the current system the potential creditor can only asses the risk of someone who has debt already, they have no way of assessing risks of someone with no debts.

To me, all this credit card system seems like an awfully nice way to make loads of money, backed by governments as well.

Well, credit cards have nothing to do with it. It's the credit scores system that is broken. If we replace the "card" with "score" in your question - then yes, you're thinking correctly. That of course is true for the US, in other countries I have no knowledge on how the creditors assess the risks.

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littleadv
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  • +1 Thank you for the interesting reply. I agree with credit card safety, for sure. I was mostly thinking on terms of pure money spending. That is, you know what you spend, it's like paying cash. – SpyrosP Jul 08 '11 at 08:06
  • I agree that the system is broken. But that is because we bailed out the banks who made bad loans. Had we let them fail, as should have happened, then there is incentive to avoid those risky loans. Instead we have said there is no downside to loaning people money who will never pay it back, because the government will just come pay it back for you. –  Jul 08 '11 at 15:22
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    Nitpick. I wouldn't say that debit card swipes are "*pure* profit". There's a lot of investment into the card processing system (which was even riskier and an even bigger deal in the days before computers and the Internet really took off). Now, possibly an uncompetitive environment means that they are exploiting retailers in excess of a normal rate of return on that capital investment, but in the absence of expecting free payment processing, some portion of the fee reflects the real expenses of the transaction. –  Jul 08 '11 at 16:13
  • @Chad - I don't think the bailout has anything to do with it, the system was there for years, the current bailout was due to misuse of loans, not inability of creditors to assess risks. They were able to assess the risks, they just ignored them. – littleadv Jul 08 '11 at 19:29
  • @fennec - the real expenses of the transactions are less than $0.01 per swipe, the fees can be up to $.0.50. That's pure profit to me. – littleadv Jul 08 '11 at 19:30
  • @littleadv - they accepted the risks on hope of reward. The bailout rewarded the failure. Had the banks been allowed to fail the system would have corrected properly. Those banks with good risk management would have moved in and bought the good debt. And the bank would have been forced to deal with its bad debt. It would have resulted in the collapse of alot of major banks yes. But future banks would have learned from the failure. What has been learned now is that our political leadership does not have the fortitude to allow for failure and will bail them out so change is not required. –  Jul 08 '11 at 19:55
  • @Chad - you're barking at the wrong tree, I'm not trying to justify the bailout. What I'm saying is that the risk assessment is inherently broken, regardless of bankers ignoring even the risks that they are able to assess properly. The whole system is built around the assumption that you must owe something to be able to borrow more. – littleadv Jul 08 '11 at 20:07
  • @littleadv - Actually that is not true. The risk is can the bank recover the money it loans. If you have assets but no history of borrowing the bank will load against those assets. If you default the bank will get its money back by selling those assets that it now owns. –  Jul 10 '11 at 22:49
  • @Chad - but if I have assets - I don't need loan. I'm not talking about business or people who mortgage their houses, I'm talking about credit cards and personal loans. Yes, you can get a secured credit card - but then it's not a loan, because you put cash as collateral. But try get a car loan without any prior credit, you'd be lucky to get one. I know for a fact that if you are lucky - it will be at 30% APR or more. From personal experience. If you get anything at all. – littleadv Jul 10 '11 at 23:47
  • @littleadv - you could have a 100 million dollar home but not have anything liquid. This is an asset. You could also have a pile of gold. This is an asset maybe you do not want to sell your assets to get money. So you borrow. Even though you never have before. You are going to probably get a good rate on a 1 million dollar loan against a 100 million dollar house. Now a 20k loan on a car that will not hold its value for someone with out a history of paying their bills is not a good bet. So it costs more. –  Jul 10 '11 at 23:54
  • @littleadv - There is more to your credit rating than just how much you borrowed. There is your assets/debt ratio. As you incur more debt this ratio goes down and your credit rating is impacted. There is your earnings. Someone making 200k a year is a better bet than someone making 20k a year. Then there are things like utilities. If you are late on these and they go to collections it shows up on credit. Some of them even report your payment history directly. Good payment history reflects well on your credit. Bad reflects poorly. –  Jul 10 '11 at 23:58
  • A secured credit card is a credit card. But they collateral they will use to help defer their losses should you stop paying your bills. Credit cards in general are really only good for the borrower if you pay them in full every month or can leverage an introductory rate to make more money on savings interest than is being charged for borrowing. It is really hard to find these rates now though. Personal loans are generally unsecured. So they are riskier. The bank has nothing to recover should you default. This carries higher risk so it commands a higher rate. –  Jul 11 '11 at 00:04
  • Secured credit card is not a credit card, there's no credit given. It's a service card. The bank assumes no risk with a secured credit card. I've had one. – littleadv Jul 11 '11 at 01:40
  • @Chad - the point is: Now a 20k loan on a car that will not hold its value for someone with out a history of paying their bills is not a good bet. - they don't know if I'm credit worthy because the only way they have to assess the risk is through a previous credit. I am paying my bills, I'm paying my rent, but they don't know that because its not a credit. That's the whole point, that's what I was saying. I don't know what are you arguing about, really, you make no sense to me. – littleadv Jul 11 '11 at 01:42
  • @littleadv - They do not see you paying your bills. They will see that you do not have strikes against you. Which is a good thing. But you are asking for a loan on an Item that immediately loses value. You have no assets so nothing to lose should you descide to just take off. I understand your frustration because I was there my self once. In a few years if you keep paying your bills and making it work you will have credit. It is something earned not given. –  Jul 11 '11 at 01:59
  • @chad & littleadv, when the comments on a non-meta answer/question get to be twice as long as the answer/question, it's probably time to set the discussion aside. :) Chad, there are 3 basic credits rating states: good credit, bad credit and no credit. What littleadv is saying is that one can be a low risk borrower, but have problems obtaining a loan because of no/little credit history. This is a bit unfair. However, I must point out that if one is responsible enough not to get into debt, one should be responsible enough to manage debt correctly in order to maintain a credit history. – George Marian Jul 11 '11 at 02:11
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Credit cards are a golden goose for banks, as they get to issue high-interest loans and simultaneously generate alot of fee income. Debit cards aren't quite as good, but they still generate substantial fee income -- ~2% of every credit/non-PIN debit transaction goes to the bank and credit card network.

Credit histories exist because they are the most effective tool available to predict whether you will pay back your loans or not. You don't need a credit history to buy most things, you need a credit history to get a large loan.

Think of it from perspective of a lender:

  • Would you give loans to people whom you don't know anything about?
  • Or rent an apartment to someone who habitually pays bills 2 months late?
  • Or loan money to someone who hasn't paid a loan back in recent history?

Credit scoring is the bank's way screening out people who are expensive to do business with. It's objective, doesn't discriminate on the basis of race, sex or other factors, and you have recourse if the rating agencies have incorrect information.

duffbeer703
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