Examining the issue of credit cards and personal responsibility.

"I believe in personal responsibility whether you think something is fair or not," says Kim Hodges, a 37-year-old single mother who says she has paid $24,000 in late fees and interest on her credit cards. "The card companies didn't make it easy by giving me more credit than I could afford," observes the self-employed graphic artist from North Carolina, "but I blame no one but myself."

Hodges is an example of the millions of Americans who have used credit cards to drive themselves to the brink, or more and more into bankruptcy. What makes her unusual is that she primarily blames herself, not the lender, for her predicament.

Credit card issuers are often accused of tempting consumers into carrying more debt than their income justifies. Then, when the customer is drowning in debt -- stumbling to make even the minimum payment -- they will pile on late fees, jack up interest rates and begin what often becomes a crescendo of collection calls. The lenders claim they have to collect as much as they can as someone becomes "riskier." The borrowers insist that with just a small, often inadvertent misstep, the card company will destroy their hopes of financial survival. The contentious blame game over record consumer debt, and the default that often follows, leaves both sides in seemingly intractable disagreement.

If there is one thing consumer advocates and the banking industry do agree on, it is that the abundance of convenient credit gets a lot of people in trouble because they are financially uninformed. Financial education is neither subsidized by the industry nor is it included in the Bush administration's "No Child Left Behind" reform of education. Ironically, industry critics say, financial education is included in a new version of the Bankruptcy Reform Act that Republicans have introduced in Congress, and which is expected to pass in the coming session. That bill, which has been stalled for years, would make it much harder for consumers to shed their unsecured credit card debt when they go into bankruptcy. It would also require both credit counseling prior to filing for bankruptcy, and post-bankruptcy instructional courses on personal financial management as a condition to discharge debt.

This effort to increase financial literacy is an important step. But many say it would be more sensible if it was provided before consumers get into trouble. Consumers filed for bankruptcy 1.6 million times last year -- double the number just 10 years ago.

To many, giving consumers the use of a credit card is similar to giving people the keys to a car without driving lessons or having a license. If they are lucky, they'll learn by only having some fender benders. But millions get into multiple car accidents that spin out of control and eventually into bankruptcy.

Ed Yingling, executive vice president of the American Bankers Association, the credit card industry's largest trade association, agrees. "Consumers are in the driver's seat when it comes to managing their personal finance," he says, "Yet we realize that drivers don't, and shouldn't, take the wheel without first learning the rules of the road. Since our schools, unfortunately, seldom teach personal finance skills, banks and others have been working to fill the gap."

Yingling says the bottom line is that an educated consumer makes the best bank customer. "You just can't build a long-term financial relationship with someone who mismanages their personal finances," he says."It's in the industry's best interest to make sure consumers understand the responsible use of credit and the importance of savings."

Yet consumer advocates say that while there is much for consumers to learn through financial literacy -- including being more aware of what they are using credit cards for -- there's far more that the industry could do to reduce the problem of spiraling credit card debt.

Stephen Brobeck, executive director of the Consumer Federation of America says, "People are people. People don't change. What's changed is the marketplace. Years ago, credit wasn't widely available. Today there's a much greater opportunity to obtain credit cards, but also a much greater opportunity to spend large amounts of the generous credit lines that are extended."

» "Yuppie Food Stamps"

Dr. Robert Manning, a professor at the Rochester Institute of Technology and author of Credit Card Nation: The Consequences of America's Addiction to Credit, says Americans once understood the difference between good debt and bad debt. "We had Benjamin Franklin tell us about the great virtues of frugality and thrift and industry -- 'A penny saved is a penny earned.'" Manning argues that banks consciously had to alter those core values of American society in order to increase profits. "Banks had a multi-billion dollar mass-marketing strategy that led to the Nike 'Just do it' consumptionism -- the effort to get the new generation to reject those old school values."

Credit is no longer viewed as an earned privilege, where you had to have a job and demonstrate that you were worthy of a loan, Manning says. "This generation has been socialized [to feel] that it's an entitlement to have these kinds of lifestyles. They don't have to earn it. They don't have to be disciplined to save. As a result, credit cards have become a kind of 'yuppie food stamps.' That's a real serious impediment in terms of trying to inculcate basic financial literacy skills on this generation where they see all these abundant things in society that they think they deserve."

But Dr. Lendol Calder, historian and author of Financing the American Dream: A Cultural History of Consumer Credit, says the idea that the introduction of institutionalized consumer debt radically changed the behavior of people who once lived within their means is a myth debunked by history. Calder argues that although the "myth of lost economic virtue is alive and well" today, consumer debt wasn't invented in the 1990s, as many media reports and recent political stump speeches would have us think.

There's "a river of red ink" that runs throughout American history, Calder explains. "In the 1880s, a middle-class family would owe money to the doctor, the banker, the butcher, the hardware store, several friends, family members, and that looks pretty much like today, the only difference being the way they get credit. But the sheer fact of debt and credit is the same."

» Do You Know What You Can Afford?

While credit card mailings can be tempting -- alternately offering teaser rates, rebates and rewards -- it's ultimately up to consumers to evaluate whether they are in the position to accept them.

But this way of thinking isn't necessarily in line with how consumers perceive credit card offers.

"There's an aura of credibility and respectability that comes with credit card offers," says Tamara Draut, director of the Economic Opportunity Program at the nonpartisan public policy organization, Demos. "When consumers are extended credit, they think it's because the banks see them as being capable of borrowing, while it very well may be that they are not financially prepared to take on additional debt."

Debt counselors and consumer advocates hear this argument often. "People say, if I can't afford it, why was I offered [credit]," says Jim Tehan, spokesman for Myvesta, a nonprofit consumer education organization. Tehan says that credit card issuers target consumers based on data-mining technology that can only give one part of the picture. "They don't know what consumers can afford -- only a consumer can say what they can truly afford."

But banking industry veteran Walter Wriston, former CEO of Citigroup/Citibank, argues that credit card issuers shouldn't be the ones deciding who can afford what. "Should we say to somebody, say, you're 21 years old: 'You can carry a rifle and fight our war. You can vote in a presidential election. But, unfortunately, you're not smart enough to know how much money to borrow?'"

Stephen Brobeck, executive director of the Consumer Federation of America, rejects Wriston's argument. "Credit is not a right. If you can't afford to pay the debt, a lender has no business at all, and in fact, is irresponsible to extend that credit."

Brobeck uses the analogy of liquor to argue this point: "If the liquor industry mailed out 5 billion small liquor samples every year, what would consumers do? My guess is that 40 percent or so would just throw it out, most of the rest would just save them and use them in moderation, but some, a portion of whom are alcoholics, would collect them and get drunk and bad things would happen."

"The question," Brobeck asks then is "who is responsible? Our response, and the response from most people would be that that responsibility is shared. But most of the responsibility lies with the liquor industry for indiscriminately sending out these samples and that's exactly what many of the lending institutions do with credit cards."

The tendency to place blame on the credit card issuers has become part of the discourse partly because the concept of personal accountability has been diluted, say experts who track consumer debt, "It's quick and easy to blame the credit card issuers, but it's like blaming McDonald's for being overweight," says Myvesta's Tehan. "The credit card industry is not forcing people to buy things. There has to be some consumer responsibility."

» Know the Difference

In contrast to the purchase of a car or real estate, where the item purchased serves as collateral, in the realm of credit card lending there are no assets backing the loan.

In addition, unlike a mortgage, there is no timeframe provided for how long it will take to pay off a credit card bill. And there is no financial statement to fill out each time a credit card user needs additional credit. In a sense, it is an instantaneous loan that consumers themselves issue.

Take, for example, an American vacation paid for on a credit card. "Consumers who travel are essentially getting an interest-free loan for two or three weeks, and at the end of the two or three weeks they can decide to pay it back, or tap the preexisting line of credit," explains Edward Yingling.

And, unlike in traditional consumer loans, issuers don't ask consumers what they will buy -- instead they provide carte blanche for the consumer to do anything they want with the extended credit.

The rub then lies in whether consumers know that the freedom inherent in this form of lending comes with a price tag. Caveat emptor.

"The product is not a promise, and I think as an industry we need to make sure people understand this better," says Yingling. "The product is not a promise to somebody that we will lend you that amount of money forever at that interest rate. It is a very short-term revolving line of credit. If the consumer wants to have an assurance that they will have that amount of money for a longer period of time, they could go to another company and get a one-year loan or a three-year loan. Now the truth is, they'd probably pay a higher interest rate for them."

Yingling agrees that this fundamental truth about the credit card industry isn't widely known. "I agree that it's not well understood. And that is something we need to do a better job of," he says.

The industry has long argued that consumers know what they're getting into with a credit card. Laws since the 1970s have increased disclosure. It's all spelled out in increasingly fine print -- balance, minimum payment, and grace period. Cardholders are even told they can be assessed a default rate for failing to pay another creditor on time, what the industry calls "universal default,' although most consumers are unaware of the practice. But for some, the fine print doesn't cut it.

"I'm willing to hold consumers responsible for the parts they can see, but what about the parts they can't see?," says Elizabeth Warren, the Leo Gottlieb Professor of Law at Harvard Law School. " Do you know how long it will take you to pay off your credit card balance if you make minimum monthly payments? No, you don't -- and I don't either because the credit card companies won't tell. Do you know what your interest rate will be in six months? No, you don't -- and I don't either because the credit card companies are burying legalese in their contracts that lets them change the interest rates at will, even if the customer makes every payment in full and on time. I believe in personal responsibility, but I also believe that we don't have adequate transparency in the market."

» The "Willingness-to-Pay" Factor

As America increasingly evolves towards a cashless society, paradoxically the old line "Don't leave home without it" is now not just a choice, it's arguably a necessity; one can't rent a car for the weekend or a foreign film down the block without a credit card.

The credit card also has become less of a discretionary purchasing tool and more of a financial management tool. Cards are frequently used as bridge loans between paychecks in the form of costly cash advances, and they have, rightly or wrongly, supplanted savings accounts as the source of rainy day funds.

Offering ubiquitous convenience, paying with plastic over cash also gives consumers the rewards they've become accustomed to -- from airline miles to discounts on merchandise to cash back and rebate offers.

But what consumers may not know is how this migration to credit cards influences the way they spend money.

"Since the 1970s, there has been growing evidence supporting the frequently heard conjecture that credit cards encourage spending," wrote Duncan Simester, a professor specializing in marketing at M.I.T.'s Sloan School of Management, in a study he conducted. Simester says research in the 1970s and 1980s showed that people who own more credit cards make larger purchases per department store visit, tip better at restaurants, and are more likely to underestimate or forget the amount spent on recent purchases.

But until recently, it wasn't known just how much the method of payment influenced consumers' willingness to pay. In 2000, Simester embarked on an in-depth study of what he calls the "credit card premium" to see whether consumers really are willing to spend more for a product when using a credit card. The study found that "willingness to pay" can be increased up to 100 percent when customers use a credit card rather than cash.

Consumers may not even be aware that they do this, but even when they are, says Simester, they can't stop themselves from doing it. "For these types of effects, we find that even when we tell people about it, they still exhibit the phenomenon. What mechanism is driving it is unclear. We're still scratching our heads trying to work out why people are doing what they are doing. The findings are intriguing."

» Irrational Behavior

Former South Dakota governor Bill Janklow, who helped lift the interest rate caps in his state in the 1980s and made South Dakota the first credit card capital of America, acknowledges that he inadvertently helped foster the current rising consumer credit card debt. He is incredulous about the perplexing way that some consumers are using their cards today.

"Millions, if not tens of millions of people over the last couple years have refinanced their homes, picking up anywhere from half a percentage point to one and a half percentage points, for long term financing," he explains. "Yet most of those same people will run around with one or more credit cards that are charging anywhere from 18 to 20-some percent per annum, and not even be thinking about [it]. It's unbelievable, the lack of sophistication that we have as a society to deal with what I'll call consumer credit."

According to some, consumers' failure to review their statements for any contractual changes, coupled with a general sense of not fully acknowledging their own credit card spending habits, helps explain why the U.S. has record levels of revolving credit card debt.

"There's a certain disconnect in the U.S. between people and their finances," says Jim Tehan, the spokesman for Myvesta, the nonprofit consumer education organization. "We've done phone surveys in the last few years that showed almost 50 percent of people didn't know what their APR was, and 25 percent who didn't even review their statements each month."

Kim Hodges, the graphic artist from North Carolina, who at one point was more than $30,000 in credit card debt, admits she, too, suffered from this disconnect. Unlike many in her situation, Hodges says it wasn't a catastrophic medical event or a job loss that got her into trouble. Instead, it was her sense that a financial windfall was right around the corner. As she puts it, she "was living in the future."

"I always thought 'I'm going to be able to pay this back tomorrow' - that I would get royalties to take care of it all in one fell swoop," she says. "Psychologically I put it on the back burner."

Hodges admits to associating "credit" with "free" for years. In hindsight, she acknowledges there was a degree of irrational spending at play. "I was struggling and working hard. I thought I deserved to treat myself or my friends," she says. It wasn't until the interest rate on one card shot to 35 percent because of late payments that she got what she says was a huge "reality check."

That apparent disconnect also relates to the way consumers describe their own spending habits. An April 2004 financial literacy study for Bankrate.com by RoperASW, a global market research firm, found that 75 percent of credit card users report that they do not make any major purchases on credit when they know they won't be able to pay it off immediately.

That study -- clearly contradicted by industry statistics and other polls -- underscores a level of "debt denial" in this country, says Greg McBride, senior financial analyst at Bankrate.com. "We see a big gap between attitudes and action," McBride says, as well as a reluctancy to admit to having debt and how much. "People were more apt to disclose their age, weight and yearly income than disclose the amount of credit card debt they had," he says.

» When the Red Flag Should Go Up

Demos' public policy expert Tamara Draut says credit card usage in the U.S. has dramatically changed in the last several years. "People used to use credit cards to stretch their finances for vacations, a new outfit or another type of luxury. Today, credit cards have become a Band-Aid to hold the family budget [together], a socially acceptable solution for maintaining living standards during periods of income loss or stagnation."

Just when credit goes from being a convenience to a problem, is hard to gauge. But there are warning signs.

Jim Tehan says, "Using credit cards to meet daily expenses is a huge warning sign that you have a problem with credit." He advises consumers who are wondering whether they themselves are running into trouble with credit card debt: "If you think you might have a debt problem, you probably have a debt problem."

Others say simply carrying any revolving debt is antithetical to a sound financial foundation. "When someone is carrying any credit card debt, it means they are falling behind instead of getting ahead, and that means there's a problem," says Harvard's Elizabeth Warren. "When people ask how much credit card debt is okay, it's a little like asking how much TNT can you keep in your basement. You probably could keep some and get along okay. But the smartest move is not to keep any."

The bar on where the red flag goes up for consumers is similar for the Consumer Federation of America. They recommend that consumers keep only one or two credit cards and avoid carrying balances unless it's absolutely necessary. "And people shouldn't even think about approaching their credit limit unless they're in an extraordinary situation," says CFA's Stephen Brobeck.

"Credit cards are the best of products and the worst of products," he says. "If you treat a credit card as a charge card and use it frequently it will be profitable for the banks and it will be free for you, and you may even get rebates."

» Recalibrating the balance

In the end, if banks are overlending and the majority of consumers are guilty of living beyond their means, how can the situation improve?

The answer lies in recalibrating this balance, says author Robert Manning. "Banks are loaning more money than people can possibly repay -- and need to reign back some of this lending. Consumers are borrowing more money than they can repay. They need to be held accountable to recognizing when they are borrowing more than they can really afford." Manning says instead of the problem being being on the consumer side or on the banking side, we need to be at both of these groups to better balance how much money is borrowed and lent.

On paper, recalibrating the balance sounds good, but actually instituting change in this area has proven nearly impossible. A handful of failed reform efforts over the last decade have tried to deal with both sides of the issue, from instituting a national usury cap to curb industry excess, to the industry's efforts to revamp the bankruptcy code to limit consumer abuse.

New York State Assemblyman Peter Rivera (D-Bronx) and U.S. Rep. Bernard Sanders (I-Vt.), the ranking member of the Subcommittee on Financial Institutions and Consumer Credit, have each introduced bills in the last year to curb the practice of "universal default." A summary of Sander's bill is readable here and information on Rivera's is available on this page.

During the 2004 presidential campaign, Democratic candidate John Kerry also addressed a number of the issues featured in this FRONTLINE/New York Times report. Charging that President Bush has "stood with the big corporations that engage in these practices," Kerry said his administration would support regulations to discontinue "universal default" and to require companies to obtain consumers' approval before charging costly over-the-limit fees for approved transactions. Kerry's campaign said he would also require card issuers to disclose the time and money required to repay a loan, if making only the minimum payment each month, as well as disclose the size of a monthly payment needed to repay the debt over three years. [ Read Kerry's proposal.]

White House spokesman Ken Lisaius would not comment on Kerry's proposals, nor on how new members of Congress might address these issues in 2005. "We're not going to speculate on future efforts undertaken in Congress," Lisaius says. Referring to the reforms that Sen. Chris Dodd and others have proposed, Lisiaus says "The administration will continue to work with Congress on efforts such as these."

The latest bankruptcy reform effort, the Bankruptcy Abuse Prevention and Consumer Protection Act of 2003 (H.R. 975) essentially says that many debtors would no longer be eligible to file under Chapter 7, which includes the ability to discharge unsecured credit card debt, and would instead be directed to file under Chapter 13 (wherein debtors attempt to pay back as much as possible over the course of three years). Sec. 1301 of the bill would also amend the Truth in Lending Act (TILA) to require companies to print the following minimum payment warning: "Making only the minimum payment will increase the interest you pay and the time it takes to repay your balance." It would also require companies to provide a toll-free number for consumers to obtain an estimate of the time it would take to repay a balance by making only minimum payments.

The bill is currently idling in the Senate after passing in the House early in 2003. But many expect it to be addressed again when Congress reconvenes in 2005. President Bush, a supporter of bankruptcy reform, will likely sign the bill if it passes.

This legislation poses serious implications for families who have turned to credit cards during times of financial hardship. Harvard University's Elizabeth Warren says about one-third of families in bankruptcy owe an entire year's salary on their credit cards. "The problem is that once someone stumbles, interest rates and late fees stack up faster than a family can pay. Lose your job, get sick, get a divorce, it doesn't matter. The debt has to be paid. That's why credit card debt makes families so vulnerable. People may manage just fine in good times, but if any problem arises, the debts will eat them alive."

At the end of last year, one in every 67 households in America had filed for bankruptcy, according to Lundquist Consulting. Despite the alarming numbers, data released in early November shows that personal bankruptcies are about 3.5 percent lower from the same period last year. This decrease represents the second drop in consumer bankruptcy filings since 2000. Yet this has not hampered the industry's efforts to go after those who they say are bilking the system.

Historically, Americans have had two options for bankruptcy explains Professor Linn LoPucki, a leading scholar on bankruptcy at the UCLA Law School. Chapter 7 is the surrender of all debtors' nonexempt property and the discharge of all dischargeable debt, excluding most taxes and student loans. Debtors who file for Chapter 13 try to pay back as much as possible over three years.

LoPucki says the reason the banking industry has continually lobbied for legislation requiring consumers to file under Chapter 13 is very simple. "The consumer credit industry is seeking to get more money from debtors who they feel are able to pay back more but don't," he says. [View detailed procedural diagrams for Chapter 7 and Chapter 13 bankruptcies designed by Professor LoPucki.]

The American Bankers Association's Edward Yingling, whose organization has actively supported back-to-back Congressional bankruptcy reform legislation efforts since 1997 concedes that while 95 percent of people who are in bankruptcy are legitimate, "3 to 5 percent" and maybe higher are committing fraud or abusing the system.

Consumer advocates dispute these numbers and say that by cracking down on the few abusers of the system, the families who actually need bankruptcy relief will find it increasingly hard to get it. Bankruptcy trustees and bankruptcy attorneys say fraud is rare and that most filers have few or no assets left when they file.

Yingling says the industry has every right to recoup funds from those who are able, rather than charge off this debt.

"Why should we not have reform [for] that 5 percent who are committing fraud, or who can afford to pay something, and aren't -- why shouldn't we have reform that takes care of that," asks Yingling. "Why shouldn't we have reform that says if you're a rich person -- and these are real cases -- and you know you're going to declare bankruptcy, and you move to Florida and build a $5 million mansion, and under current law in Florida and the United States, that $5 million mansion cannot be touched in bankruptcy."

But consumer advocates say reform needs to occur before consumers end up in front of a judge. "The issuers need to be more responsible," says Stephen Brobeck, executive director of the Consumer Federation of America. "Most of these problems would disappear if issuers would be more prudent in extending credit. If they raised the minimum monthly payment back to 4 to 5 percent, I believe the bankruptcy rates would fall dramatically over time, just from that one change."

Others have tried to stave off problems before they occur. Sen. Chris Dodd (D-Conn.) has twice authored legislation in the Senate (including an amendment to bankruptcy reform legislation) that would mandate that credit card issuers granting credit to those 21 and under would have to require the person have verifiable means of income, a co-signer and/or proof of attending a financial literacy course. For Dodd, these are "very simple, common-sense suggestions," which he says were vehemently opposed by the industry.

"The problem is that credit card companies want to have it both ways," says Dodd. "On one hand, they want unfettered access to new customers, irrespective of whether these new customers are financially literate, or have the ability to repay the debts they incur. At the same time, they want to be protected when they overextend credit to these very same customers."

The only way to strike a balance, Dodd says, is to enact "common sense" protections that can empower consumers but still hold people accountable for any abuses when it comes to paying what they owe. But that can only happen if the credit card industry jettisons their "my way or the highway" approach to these issues, and seeks to address these issues in a thoughtful and comprehensive way.

Consumer advocates say there are obstacles inherent in challenging the industry. "It is hard for Congress to get behind any legislation that puts limits on credit card companies," says Harvard's Elizabeth Warren. "After all, the financial services industry is one of the biggest contributors in Washington." But she says change can come through the regulatory agencies and through Congress. "Congress can keep up the pressure, states are getting more active, and even the current banking regulator has indicated concern over banking practices," she says. "If enough people complain loudly enough, change is possible."

In the end, Kim Hodges, the single mother from North Carolina who found herself in debilitating debt, didn't chose to go the bankruptcy route and is following up on her commitment to pay it all back. "In a way, all of this debt has made me grounded," she says. "It's been a good lesson. I now have a respectful relationship with money."