an unanticipated consequence of
Jack M. Balkin
Jack Balkin: jackbalkin at yahoo.com
Bruce Ackerman bruce.ackerman at yale.edu
Ian Ayres ian.ayres at yale.edu
Mary Dudziak mary.l.dudziak at emory.edu
Joey Fishkin joey.fishkin at gmail.com
Heather Gerken heather.gerken at yale.edu
Abbe Gluck abbe.gluck at yale.edu
Mark Graber mgraber at law.umaryland.edu
Stephen Griffin sgriffin at tulane.edu
Bernard Harcourt harcourt at uchicago.edu
Scott Horton shorto at law.columbia.edu
Andrew Koppelman akoppelman at law.northwestern.edu
Marty Lederman msl46 at law.georgetown.edu
Sanford Levinson slevinson at law.utexas.edu
David Luban david.luban at gmail.com
Gerard Magliocca gmaglioc at iupui.edu
Jason Mazzone mazzonej at illinois.edu
Linda McClain lmcclain at bu.edu
John Mikhail mikhail at law.georgetown.edu
Frank Pasquale pasquale.frank at gmail.com
Nate Persily npersily at gmail.com
Michael Stokes Paulsen michaelstokespaulsen at gmail.com
Deborah Pearlstein dpearlst at princeton.edu
Rick Pildes rick.pildes at nyu.edu
Richard Primus raprimus at umich.edu
K. Sabeel Rahmansabeel.rahman at brooklaw.edu
Alice Ristroph alice.ristroph at shu.edu
Neil Siegel siegel at law.duke.edu
Brian Tamanaha btamanaha at wulaw.wustl.edu
Mark Tushnet mtushnet at law.harvard.edu
Adam Winkler winkler at ucla.edu
We’re troubled by the absolute ban on interest-rate hikes on existing balances unless the card-holder falls 60 days behind on the minimum payments. If the risk of default increases because the borrower stops paying on other loans or runs up balances on other credit cards, the law should at least give issuers and cardholders the option of setting up a relationship where the interest rate would increase with the risk of default.
The problem is that many rate hikes have not been driven by changes in the risk of default.
Unfortunately, banks have a history of raising rates just because they can. It isn’t reasonable to change the terms to take advantage of asleep-at-the-wheel cardholders who miss notices in the midst of their junk mail.
The challenge is to try to create a regulatory system that allows risk-related increases while discouraging asleep-at-the-wheel advantage taking. It is often efficient to be asleep. I don’t want to live in a world where I have to carefully read all my junk mail.
Barry and I have hit on a solution which basically tries to harness the market to tell us whether a proposed interest-rate hike is reasonable:
At the time when the lender proposes a unilateral change, it would be required to put the existing account balance up for auction on a LendingTree-like service that would allow other credit card issuers to bid for a chance to issue a new card and take over the existing balance.
To identify a clear winner, the government would have to promulgate standardized terms for key non-interest attributes — such as late fees. Credit card companies would only be required to use these terms if they wanted to participate in the auction.
Borrowers wouldn’t be forced to switch to the auction winner. They’d just be given the option. When an existing credit card issuer proposes a rate increase, it would be required to pass on the terms of the winning bid and a comparison with its own terms, and the borrower would decide whether he wanted to make the switch.
A market test would distinguish between good and bad interest hikes. Issuers would not be deterred from making interest increases that were driven by increased risk because they would not be concerned that competitors would undercut their offers. But unfavorable changes in interest rates or late fees that were just trying to squeeze out higher profit might be deterred. The issuer would have to worry that a competitor would steal the business.
Many account holders will still be asleep at the wheel, and others will want to stick with their existing card because they like the reward program or don’t want the hassle of updating credit card numbers on all the automated bill payments they’ve set up online. But the risk that others would read the fine print and defect would have a strong disciplining effect on gougers.
This credit card market test is similar to what the law does in other circumstances when it doesn’t trust the results of arms-lengths negotiations. When a creditor seizes secured property, it must auction the property (rather than merely sell it to a friend at cheap price). When a corporate takeover becomes inevitable, the board of the target corporation (which might be worried about keeping its job), in Delaware under the Revlon rule, has a duty to act as would “auctioneers charged with getting the best price for the stock-holders at a sale of the company.” Asking credit card companies to auction before they hike rates follows this tradition, but it is less radical because it gives the card-holders the option of whether to accept the winner’s offer.