Credit Cards Cost, No Matter What

I should have known: Call people suckers and they'll take offense.

A number of folks were either confused or offended when I said recently that we are all suckers -- that is, losers -- when we use credit to pay for services and goods.

I offered that view while reporting on a proposal from the Federal Reserve and two other banking regulators to curtail or ban certain credit card industry practices.

"I'm very perplexed," wrote Tim McCune of Germantown. "If we pay off all monthly credit card balances, used primarily on utilities, other monthly expenditures and Internet purchases . . . and we get affinity benefits, how am I losing money and why are we 'suckers'? Haven't you cast your victim net too widely?"

Others were equally convinced that their credit card use was completely controlled.

"I do not understand your argument that anyone who uses credit cards is a chump, even if they pay their balances off in full every month," another reader wrote. "I can assure you that I make the same purchases and contributions, with credit cards, that I would make without them."

I'm reasonably sure that many people do not make the same purchases when they pay with plastic. This isn't just a feeling or anecdotal evidence. Researchers have found that people's willingness to purchase more products or services increases with the use of plastic.

In their groundbreaking research, Drazen Prelec and Duncan Simester of the Sloan School of Management at MIT found that study subjects paid more when instructed to use a credit card rather than cash. In fact, they found that people were willing to pay up to 100 percent more with plastic.

So have I thrown a net too widely in arguing that we are all suckers, even those of us who faithfully pay off our bills every month?

Nope. Net tossed just right.

You have to admire the marketing might of credit card issuers. They have done an outstanding job in persuading otherwise smart people that using plastic can come with no price.

Oh, there is a cost. You may be able to bear it, but there is an extra cost.

For example, let's say you decide to go out to eat with friends. You vow beforehand that you are only going to spend $20, and that's all you take in cash to the restaurant. You leave home without the credit card. The cash limits your spending capacity.

However, if you take and use a credit card, even with your resolve to stay within the $20 limit, the plastic makes it easier to break that promise.

Peter Tufano, a professor of financial management at Harvard Business School, has found in his research that transaction credit card users -- those who pay their bills off every month and who are not overly indebted -- are more financially literate.

"Their credit card purchases are under control," Tufano said. "But that is not to say that they are spending less."

Greg Davies at Britain's Warwick University found in one study aimed at marketers that customers using credit cards spend more than those paying with cash or checks in purchasing situations that are otherwise identical in every other respect.

"This customer behavior is at odds with standard economic theory, which argues that the method of payment should have no effect on spending, so consumers seem to be indulging in 'irrational' behavior,' " Davies says in a research article, "The Realities of Spending."

Davies explains that credit cards boost spending because of the psychophysics of how our brains work. He found that credit cards reduce the pain of payment because:

· Paying for the product or service is put off when you use plastic. Therefore, we don't do the same mental accounting as we do when we pay with cash.

· When several things are bought on a credit card at one time and paid for in a single transaction, there is no clear signal that we may have overspent on any one of the items.

· Paying with cash is a visual clue that money is being spent. And while checks don't have the same effect, writing down the amount physically still imprints on your brain that you are letting go of some cash.

If you don't believe the research, try this experiment: For one month, don't use a credit card. Make all your purchases with cash. After the month is over, compare your spending with the previous month when you used credit.

If it's true that you don't transact more when you use plastic, your spending behavior during the experimental month should be exactly the same.

Without fail, when I have people do this experiment, they realize they, in fact, are buying more on plastic, even the folks who are capable of handling and paying off their purchases during the billing cycle.

I haven't given up on using credit -- yet. But I'm mindful that I do spend more when I swipe that card. Like others who use credit cards for the convenience, I may not be weighed down by this debt, but to say that there is no extra cost vs. cash is irrational.