Issuer Brawls
Competition among card networks (Visa versus AMEX) has largely been "advertising jabs" between the various companies, fairly lightheart compared to the competition that takes place between issuers, the banks who make profit depending on whose card you carry (MBNA Visa versus Chase Visa).
Consumers are besieged with credit card offers from various firms, and so long as the nature of the advertising isn't harmful to the parent brand, the major card networks are happy to stand by and let the issuers duke it out over market share: no matter who wins, the network profits.
Who Are the Players?
There are thousands of banks and institutions that are licensed distributors of payment cards, but the top fifty issuers account for approximately 90% of credit card transaction volume.
American Express, Diners Club, and Discover are single-issuer networks. While the cards are cobranded by other institutions, the cards are actually issued by the network and all payments are made to the network rather than a separate issuing organization.
Banks, credit unions, and other depository institutions account for the largest portion of payment cards, by volume. These include Citibank (the single largest bankcard issuer), Chase, First Chicago, etc.. Virtually every bank has a debit card program (tied to their ATM cards) and most offer customers a bank-issued credit card, so there are a large number of such firms, each of which has a small cadre of customers.
A number of monoline banks have emerged, whose primary line of business is issuing credit cards. They maintain a banking infrastructure only as necessary to qualify to issue credit cards. MBNA, First USA, Capital One, Advanta, and Providian are the major players in this sector.
Finally, a number of nonbanks have entered the credit card business. Both General Motors and AT&T have credit card programs, and are listed among the top ten issuers. Much like monoline banks, these corporations operate a nominal banking operation for the sake of qualifying to issue credit cards.
Issuer Interests & Operations
Competition among these players is for consumers (not merchants), and their goal is to get as many people to take their cards, and use them as much as possible when compared to other cards they hold.
There is also considerable interest in getting customers to transfer balances, as card issuers make 75% of their profit from the interest owed on credit card balances. Another 10% of income is derived from fees, particularly late payment fees.
The remaining 15% is their share of the revenue from commissions to merchants who accept their cards as payment - however, card issuers are not able to alter the rate that merchants are charged, nor do most have much leverage to negotiate for a larger cut from the card network.
There are a variety of costs to a card issuer. Aside of system-level costs, an issuer undertakes the operational expense of sending bills and processing payments and any advertising expenses to promote their cards. The largest cost to issuers is financing outstanding balances, as these firms must pay the network (who pays the merchant) well in advance of receiving payment from the customer.
The second-largest cost to issuers is payment defaults. These issuers bear the burden of risk, and must tend to the task of collecting from deadbeats. While the delinquency rate on bankcard debt is fairly low (3.6%), this is much higher than on other types of loans, such as mortgages (1.4%), auto loans (1.87%) and unsecured personal loans (2.12%).
Also worth noting: the average cost to a card issue of acquiring a new customer was calculated at $50 per approved application in 1995, including the marketing cost to acquire them and the processing cost to take their application and issue a card.
Competitive Strategies
Given the heterogeneity of consumer needs and tastes, there is enormous product variety in the bankcard industry: card issuers can vary the interest card rates, annual fees, credit lines, and additional features to appeal to different kinds of consumers.
Some card issuers prospect for high-margin customers. The ideal customer is one that carries a high balance but has little chance of defaulting. Other issuers will focus on customers who pay promptly, decreasing the amount of leverage (borrowing) the issuer must do in order to cover outstanding card balances - and the organizations' chief source of profit is merchant transaction fees. Still others will concentrate on building a "portfolio" of customers with a mix of these qualities.
Once a firm has defined its target, various strategies are used to obtain their business (generally, tailoring the features of the card to appeal to a specific target market), and the company may also have a strategy in place to incent customers to transfer their balances from other cards.
Marketing Strategies
The author presents four different companies' marketing atrategies:
AT&T Universal Card
AT&T aggressively marketed a "universal" card, which could be used to make purchases, obtain cash advances, and make long-distance calls. The card offered "no annual fee for life," plus discounts on long-distance calls and travel insurance. The company leveraged its existing relationships with telephone service customers.
AT&T's stress on no annual fees attracted a disproportionate share of customers who pay their balance in full each month, which resulted in a lower than expected revenue from interest and fees, and it did not accomplish the original goal of creating greater customer loyalty to other AT&T products and services. And so, AT&T sold its credit card business to Citibank in 1998.
MBNA
MBNA grew to become the second-largest issuer of credit cards, and the market leader in affinity cards (cobranded with various companies and institutions). Its goal was to recruit the "upper market" customers (who are generally safer credit risks) by aligning themselves with brands that appealed to the upper-middle class, such as college alumni associations.
As of 1997, the company had affinity deals in place with 4500 institutions, had profits in excess of $600 million, andw as growing at a rate of 29% per year.
Citibank
Citibank's marketing strategy was too offer its card as part of a full range of financial and banking services, in both the united states and abroad. In addition to pushing the card to their banking customers, Citibank also aggressively marketed to college students, whose irresponsible spending habits in their youth could be bailed out by their higher income after graduation. As a result, Citibank has become the single largest credit card issuer.
Bank of Boston
The BB had established a considerable credit card program, which it sold for $780 million to Chase in 1989 - but accepted a restriction from entering the credit card business for five years as part of the deal.
Six years later, BB re-entered the market, with a strategy of luring revolvers away from their existing cards. To do so, it offered low introductory rates on its cards (this strategy became wildly popular later, but BB pioneered it).
When other banks fought back with low introductory rates, BB switched to a "starts low, stays low" campaign that offered customers a low rate for the life of their balance, meanwhile criticizing the practice of temporary discount rates (which it had pioneered)
Market Structure
The textbook model of perfect competition describes a market with the following qualities:
- A large number of competing firms
- Identical products
- No seller is large enough to affect market price by itself
- Firms can enter and exit the industry without significant cost
- Customers have good information about their options
- Customers can switch vendors easily
The author compares the credit card industry to this model:
A large number of competing firms
There are thousands of credit card issuers. Many of the largest issuers market their cards nationally. And while most of the smaller issues are geographically specific in their advertising, the majority are expected to be national in their operations: they are not prohibited from refusing applicants from outside their locale, nor is there a reason they would be inclined to do so.
Identical products
The author suggests that payment cards are "moderately differentiated" in that issuers can vary the features of their cards to make their product different from competitors ... but in truth, they tend to be "slightly differentiated" - with thousands of issuers available, chances are slim that any specific card offer is truly unique (dozens or hundreds are fundamentally identical).
The author also cites statistics that indicate "almost 20%" of customers said that rewards and rebates were a selection criteria - but that means that over 80% do not consider these oddball perks of any significance at all.
Market Manipulation
This criterion generally applies to finite goods, such that a single supplier could voluntarily decrease the amount of output in order to raise the market price, or push production and glut the market with cheap goods.
While there are some large suppliers in the credit card industry, none of the ten largest issuers are capable of inflicting an embargo on the market (customers would simply turn to other firms), neither do any of the top card issuers have sufficient market share to glut the market with "cheap" cards to harm their competitors.
Entry/Exit Barriers
While getting into the credit card business isn't something an individual can do easily, it is actually quite simple for most banks to do so, even small local banks.
The card services themselves make it very easy for a bank to become a member and issue their cards, and most banks have most of the requisite infrastructure in place to support a credit card operation.
Likewise, exiting the industry is fairly simple. In many instances, a company will have no problem selling off their portfolio of cardholders to another institution ... and even in the most extreme cases (your customers are all deadbeats), a company can close up shop and write off the outstanding receivables (given that the cash paid to the network is a sunk cost, walking away from people who owe you money is essentially free).
Customers have good information about their options
The author states that customers have "fairly extensive" information about the variety of cards available to them, largely due to the volume of credit card offers sent out by direct mail (3 billion in 1997 alone, ten to every person in the USA), not to mention other methods of advertising (newspaper and magazine ads and inserts, hand-out applications, etc.)
Information is also widely available on the Internet - not only do most issuers provide information to solicit customers, but there are also an array of sites that specialize in aggregating and comparing offers.
Ease of Switching
There is no cost to the customer for switching providers - in fact, many providers are eager to help customers switch their accounts from their current providers. Neither is there any legal method that can be used for a firm to discourage its customers from leaving.
Market Performance
The payment card industry has experienced robust growth in the last half of the twentieth century: there have been a significant number of innovations and improvements and increasing consumer adoption. In short, the market has not yet reached maturity, and continues to grow at a phenomenal rate.
Customers have obtained more cards over time, increased their usage of them in making purchases, and increased the amount owed per card. While the number of households increased by 50% over the 25 years ending 1997, credit card transactions increased 2630% during that same time.
(EN: Ironically, the author does not consider the saturation rate - the point at which customers are carrying as much debt as they can afford, and can no longer take on additional debt - he seems to see this as a field with infinite possibilities.)
Prices are affected by a multitude of factors, including factors beyond the control of card issuers (the prime lending rate). However, the price f credit to consumers has decreased by 7% over the past decade, which outpaces the degree to which inflation decreased over the same time period. Taking into account the decrease in the amount paid for interest, consumer prices have fallen by nearly 35%, which the author interprets as a sign of growing efficiency in the credit industry.
The author also suggests that the value of the product to the consumer has "increased dramatically over the history of the industry." He speaks to the growing number of fringe benefits that cards offer to customers, but this seems to be a highly subjective and wonky interpretation of value.
The author states that calculating profitability for the industry is "complicated and controversial" - firms are reluctant to disclose the details, the profits from credit cards are shared among a multitude of firms, and these profits are often commingled with other business operations. Estimates of profitability range from 1.44% to almost 20%
Consolidation in Banking and Cards
The author speaks of some of the major bank mergers of the 1990's along with the sale of credit card businesses from one organization to another. However, even after all the mergers and portfolio sales, the car industry remains "fiercely competitive," and industry density (measured by the HH index) remains in the range of competitive industries.