Major Banks Ignore States Banning Payday Loans

Story first appeared on The New York Times -

Major banks have quickly become behind-the-scenes allies of Internet-based payday lenders that offer short-term loans with interest rates sometimes exceeding 500 percent.

With 15 states banning payday loans, a growing number of the lenders have set up online operations in more hospitable states or far-flung locales like Belize, Malta and the West Indies to more easily evade statewide caps on interest rates.

While the banks, which include giants like JPMorgan Chase, Bank of America and Wells Fargo, do not make the loans, they are a critical link for the lenders, enabling the lenders to withdraw payments automatically from borrowers’ bank accounts, even in states where the loans are banned entirely. In some cases, the banks allow lenders to tap checking accounts even after the customers have begged them to stop the withdrawals.

“Without the assistance of the banks in processing and sending electronic funds, these lenders simply couldn’t operate,” said Josh Zinner, co-director of the Neighborhood Economic Development Advocacy Project, which works with community groups in New York.

The banking industry says it is simply serving customers who have authorized the lenders to withdraw money from their accounts. “The industry is not in a position to monitor customer accounts to see where their payments are going,” said Virginia O’Neill, senior counsel with the American Bankers Association.

But state and federal officials are taking aim at the banks’ role at a time when authorities are increasing their efforts to clamp down on payday lending and its practice of providing quick money to borrowers who need cash.

The Federal Deposit Insurance Corporation and the Consumer Financial Protection Bureau are examining banks’ roles in the online loans, according to several people with direct knowledge of the matter. Benjamin M. Lawsky, who heads New York State’s Department of Financial Services, is investigating how banks enable the online lenders to skirt New York law and make loans to residents of the state, where interest rates are capped at 25 percent.

For the banks, it can be a lucrative partnership. At first blush, processing automatic withdrawals hardly seems like a source of profit. But many customers are already on shaky financial footing. The withdrawals often set off a cascade of fees from problems like overdrafts. Roughly 27 percent of payday loan borrowers say that the loans caused them to overdraw their accounts, according to a report released this month by the Pew Charitable Trusts. That fee income is coveted, given that financial regulations limiting fees on debit and credit cards have cost banks billions of dollars.

Some state and federal authorities say the banks’ role in enabling the lenders has frustrated government efforts to shield people from predatory loans — an issue that gained urgency after reckless mortgage lending helped precipitate the 2008 financial crisis.

Lawmakers, led by Senator Jeff Merkley, Democrat of Oregon, introduced a bill in July aimed at reining in the lenders, in part, by forcing them to abide by the laws of the state where the borrower lives, rather than where the lender is. The legislation, pending in Congress, would also allow borrowers to cancel automatic withdrawals more easily. “Technology has taken a lot of these scams online, and it’s time to crack down,” Mr. Merkley said in a statement when the bill was introduced.

While the loans are simple to obtain — some online lenders promise approval in minutes with no credit check — they are tough to get rid of. Customers who want to repay their loan in full typically must contact the online lender at least three days before the next withdrawal. Otherwise, the lender automatically renews the loans at least monthly and withdraws only the interest owed. Under federal law, customers are allowed to stop authorized withdrawals from their account. Still, some borrowers say their banks do not heed requests to stop the loans.

Ivy Brodsky, 37, thought she had figured out a way to stop six payday lenders from taking money from her account when she visited her Chase branch in Brighton Beach in Brooklyn in March to close it. But Chase kept the account open and between April and May, the six Internet lenders tried to withdraw money from Ms. Brodsky’s account 55 times, according to bank records reviewed by The New York Times. Chase charged her $1,523 in fees — a combination of 44 insufficient fund fees, extended overdraft fees and service fees.

For Subrina Baptiste, 33, an educational assistant in Brooklyn, the overdraft fees levied by Chase cannibalized her child support income. She said she applied for a $400 loan from Loanshoponline.com and a $700 loan from Advancemetoday.com in 2011. The loans, with annual interest rates of 730 percent and 584 percent respectively, skirt New York law.

Ms. Baptiste said she asked Chase to revoke the automatic withdrawals in October 2011, but was told that she had to ask the lenders instead. In one month, her bank records show, the lenders tried to take money from her account at least six times. Chase charged her $812 in fees and deducted over $600 from her child-support payments to cover them.

“I don’t understand why my own bank just wouldn’t listen to me,” Ms. Baptiste said, adding that Chase ultimately closed her account last January, three months after she asked.

A spokeswoman for Bank of America said the bank always honored requests to stop automatic withdrawals. Wells Fargo declined to comment. Kristin Lemkau, a spokeswoman for Chase, said: “We are working with the customers to resolve these cases.” Online lenders say they work to abide by state laws.

Payday lenders have been dogged by controversy almost from their inception two decades ago from storefront check-cashing stores. In 2007, federal lawmakers restricted the lenders from focusing on military members. Across the country, states have steadily imposed caps on interest rates and fees that effectively ban the high-rate loans.

While there are no exact measures of how many lenders have migrated online, roughly three million Americans obtained an Internet payday loan in 2010, according to a July report by the Pew Charitable Trusts. By 2016, Internet loans will make up roughly 60 percent of the total payday loans, up from about 35 percent in 2011, according to John Hecht, an analyst with the investment bank Stephens Inc. As of 2011, he said, the volume of online payday loans was $13 billion, up more than 120 percent from $5.8 billion in 2006.

Facing increasingly inhospitable states, the lenders have also set up shop offshore. A former used-car dealership owner, who runs a series of online lenders through a shell corporation in Grenada, outlined the benefits of operating remotely in a 2005 deposition. Put simply, it was “lawsuit protection and tax reduction,” he said. Other lenders are based in Belize, Malta, the Isle of Man and the West Indies, according to federal court records.

At an industry conference last year, payday lenders discussed the benefits of heading offshore. Jer Ayler, president of the payday loan consultant Trihouse Inc., pinpointed Cancún, the Bahamas and Costa Rica as particularly fertile locales.

State prosecutors have been battling to keep online lenders from illegally making loans to residents where the loans are restricted. In December, Lori Swanson, Minnesota’s attorney general, settled with Sure Advance L.L.C. over claims that the online lender was operating without a license to make loans with interest rates of up to 1,564 percent. In Illinois, Attorney General Lisa Madigan is investigating a number of online lenders.

Arkansas’s attorney general, Dustin McDaniel, has been targeting lenders illegally making loans in his state, and says the Internet firms are tough to fight. “The Internet knows no borders,” he said. “There are layer upon layer of cyber-entities and some are difficult to trace.”

Last January, he sued the operator of a number of online lenders, claiming that the firms were breaking state law in Arkansas, which caps annual interest rates on loans at 17 percent.

Now the Online Lenders Alliance, a trade group, is backing legislation that would grant a federal charter for payday lenders. In supporting the bill, Lisa McGreevy, the group’s chief executive, said: “A federal charter, as opposed to the current conflicting state regulatory schemes, will establish one clear set of rules for lenders to follow.”

The Fed's 30-Year Warp

The Wall Street Journal

 

There's no end to the potential knock-on effects from the Federal Reserve's superlow interest-rate policies.

Consider housing. The Fed hopes to prod home buying by driving mortgage rates to record lows; Freddie Mac reported Thursday that the average rate for a 30-year, fixed mortgage had fallen to 4.27%. Yet purchase activity still is muted. And even if rock-bottom rates do eventually prove a tonic, they may turn into another albatross around the neck of the housing market.

Should housing and the economy revive, interest rates likely will rise. This will make mortgages more expensive, possibly damping any rebound in home prices. It also could crimp volumes. Even those who want to sell their house may balk at giving up their supercheap 30-year debt.

Just as many would-be sellers feel unable to move right now because their mortgages are underwater, this could hobble mobility even as the economy recovers. In a 2008 study, three New York Fed staffers found that "a $1,000 higher real annual mortgage interest cost is estimated to reduce mobility by 2.8 percentage points." That is equal to about 25% of the normal, baseline mobility rate.

That also bodes ill for employment growth, which requires workers to be flexible in moving to find jobs. Further proof, perhaps, that there is no free lunch, even for the Fed.

Number of the Week: Cheap Money Isn't Free

The Wall Street Journal

 

1%: the interest rate on IBM’s most recent three-year bond.

This week, IBM set a sort of milestone in the bond market’s recovery from crisis: The iconic computer company borrowed $1.5 billion at the bargain-basement interest rate of only 1%.

IBM’s cheap money, though, exemplifies the costly trade-offs involved as the Federal Reserve seeks to nurse the economy back to health.

With markets expecting the Fed to keep its target rate somewhere between zero and 1% for at least the next two years, borrowing for short and long periods is extremely cheap. That’s great for big companies and banks, but it’s coming at the expense of savers — a group whom, in the longer term, the U.S. needs to encourage.

U.S. corporations have taken full advantage of low interest rates, going on a bond-issuing binge that has left them with tons of cash, which they appear to be holding largely as insurance against a new bout of financial turmoil, rather than spending on new hires. Nonfinancial companies were sitting on about $8.4 trillion in cash as of the end of March, or about 7% of all company assets, the highest level since 1963. Even before its bond issue, IBM had $12.3 billion in cash and short-term investments, which accounted for about 12% of all its assets.

Big banks, for their part, are seeing bumper earnings as they make use of cheap money and help companies issue all those bonds. Even as their lending continued to shrink, they generated more profits in the first quarter of 2010 than they have since before the recession, according to the latest data from the Commerce Department.

Meanwhile, though, savers are seeing some of the worst nominal returns in decades. As of June, the weighted average interest rate on deposits, money-market funds and other highly liquid investments stood at only 0.29%. Returns on riskier investments aren’t great, either: The average yield on near-junk bonds with maturities close to 30 years stood at about 5.9% this week.

To be sure, the Fed doesn’t have a lot of room for maneuver. If the economy is still struggling, it can’t risk raising rates. But in the debate over whether the economy should be supported through further government stimulus or Fed easing, it’s useful to remember that low interest rates aren’t cost-free, great as they may be for the folks at IBM.

Banks Hemorrhage Cash With Cards Wanting To Be American Express‏

Bloomberg

William “Wild Bill” Janklow’s law office in Sioux Falls, South Dakota, is crowded with mementos from his 16 years as a Republican governor. On a low, wooden bookcase, near bottles of hot sauce custom labeled for his annual Buffalo Roundup, he keeps a 4-foot length of red ribbon festooned with Citibank credit cards.

Janklow is the politician who, in 1981, brought Citibank to South Dakota. When he cut that ribbon to welcome the New York- based bank, he blew the lid off the U.S. credit card business, Bloomberg Markets reports in its June Issue.

The law inviting Citibank to South Dakota threw out limits on how much interest the state’s banks could charge borrowers -- rules known as usury caps.

“Citi wanted the invitation, and they knew what we were doing with rates,” Janklow says. In a secret meeting at the governor’s residence with Walter Wriston, chief executive officer of Citicorp, the bank’s parent, Janklow agreed to drive through the legislation in a swap for 400 jobs.

“That was the deal,” Janklow says. “You have no idea, in a state of 750,000, how many 400 jobs is, all in one place.”

The business Janklow and Wriston set in motion with a handshake that evening transformed U.S. consumer lending. Once interest rates were allowed to rise as high as banks could push them, credit cards became a ticket to enormous profit. In the decade ended on Dec. 31, 2007, credit card issuers together earned more than $50 billion, mostly on the difference between their own cost of money and consumer rates of as much as 30 percent. So-called subprime lenders pitched rates as high as 80 percent. At JPMorgan Chase & Co., cards accounted for 20 percent of both revenue and profits in 2007.

Profit Driver

“The credit card business has been a critical driver for these companies; it was the single most profitable product in the lending arena next to mortgages,” says Richard Bove, an analyst at Rochdale Securities in Lutz, Florida.

Then the harshest economic decline since the 1930s crushed the job market, and a record number of card holders stopped paying their bills. The three biggest card-issuing banks lost at least $7.3 billion on cards in 2009. Bank of America Corp., after earning $4.3 billion on cards in 2007 -- a third of its total profit -- swung to a $5.5 billion loss in 2009. JPMorgan Chase lost $2.2 billion last year on cards and, in mid-April, reported a $303 million loss for the first quarter.

“We have a business that is hemorrhaging money,” says Paul Galant, CEO of Citigroup Inc.’s card unit, where Citi-branded cards lost $75 million last year. The bank won’t disclose how much it lost on cards it issued under the names of retail stores.

$89 Billion

At the same time, the card issuers’ bottom line is being hurt by a new federal law forcing them to be more transparent about fees and interest charges. U.S. credit card issuers wrote off a record total of $89 billion in card debt in 2009 after losing $56 billion in 2008, according to R.K. Hammer Investment Bankers, a Thousand Oaks, California-based adviser to card issuers.

U.S. credit card delinquencies and write-offs tend to track the national jobless rate. When unemployment jumped to 10.1 percent in October, card industry loan write-offs hit 10.4 percent, according to estimates from Moody’s Investors Service.

American Express Co., Capital One Financial Corp. and Discover Financial Services, which only in recent years became banks, fared better than Bank of America, Chase and Citigroup. They made money in 2009 after more-cautious lending during the boom years, which limited the rise in defaults. The sea of red ink began to recede in the first quarter for Charlotte, North Carolina-based Bank of America. It reported $952 million in profit from cards in the quarter after releasing reserves set aside in 2009 to cover future defaults.

Goldman Suit

Turning around their card units may be more important than ever to the banks in the wake of the U.S. Securities and Exchange Commission’s lawsuit accusing Goldman Sachs Group Inc. of fraud, says Michael Holland, who oversees more than $4 billion as chairman of Holland & Co. in New York. The case is focusing Washington’s lens on regulating the derivatives market, which could weigh on the big banks’ trading operations, he says.

“I look at cards as able to do well when other parts of the business aren’t,” says Holland, who owns shares of JPMorgan. Still, he thinks the days of immense profits in cards may be over. “The future may not be as good as the past,” Holland says.

As the economy revives, defaults will ease. Washington’s assault on the industry may not. In February, the Credit Card Accountability, Responsibility and Disclosure (CARD) Act wiped out many of the banks’ most lucrative billing practices, including their ability to raise rates on existing debt at any time.

Washington Rules

Now, the banks have to give cardholders 45 days’ warning on any rate rise and can’t apply a new rate on existing debt. JPMorgan Chairman and CEO Jamie Dimon said during an earnings conference call in April that the changes will cost his bank up to $750 million in 2010. Banks overall may lose $50 billion in revenue during the next five years, including $11 billion in 2011, because of the legislation, says Robert Hammer, CEO of R.K. Hammer Investment Bankers.

Congress isn’t finished. A proposal for a U.S. consumer finance protection agency, which would police how banks deliver and service financial products, has passed in the House and was being discussed in the Senate as of mid-April.

Credit card customers, meanwhile, are still furious after years of rising rates, snowballing fees and less time in which to pay their bills. Citigroup’s Galant, who took over in April 2009, gets hundreds of e-mails a month.

‘Angry at Us’

“They are angry at us; they are angry at the system; they are angry at the government,” he says. “All they want to do is get back to a peaceful existence.”

The lenders are busy reinventing themselves and the risk models they used to justify passing out plastic to almost anyone who would take it. They had come to rely on computer-generated data to assess borrowers.

“We have shifted to more judgmental lending,” says Susan Faulkner, who took over Bank of America’s card operation in early March.

That means they’re putting human eyes on applications and judging borrowers on, for instance, the type of mortgage they hold. “Instead of starting with the product, we are starting with the customer,” Faulkner says.

The borrowers that card issuers want are richer and more- stable payers than the hordes they marketed to during the boom years. The least-creditworthy customers are being dumped.

Shrinking Credit Lines

The big six issuers have trimmed total credit available to their customers by about 25 percent partly by shrinking credit lines and not renewing expired cards, says Moshe Orenbuch, a bank analyst at Credit Suisse Group AG in New York.

The number of cards in circulation has declined to 576 million from 708 million in 2007, according to the Nilson Report, a Carpinteria, California-based industry newsletter. Customers bear some responsibility for the mess, Faulkner says.

“The business has to be right-sized,” she says. “There was too much credit extended; customers overextended themselves in the use of that credit.”

To hang on to their richest and most reliable payers -- and increase their fee revenue -- the banks are inventing new premium cards and adding to rewards programs. Those willing to pay $85 a year for a Chase Sapphire card, for instance, are guaranteed a live person will answer if they call. They also receive a yearly “dividend” of 7 percent of the reward points they have accumulated.

Airline Offer

In November, Chase also offered a co-branded card with British Airways Plc that gave 100,000 miles to any customer who signed up and spent $2,000 in the first three months of membership. That’s more than enough points for a round-trip plane ticket from the U.S. to Europe. Chase has since scaled back the reward to 30,000 points.

They’re all chasing American Express, which has long catered to a wealthier group. The firm made $2.1 billion in 2009, helped by expense cuts and a default rate that was among the lowest in the big six. The company’s stock was the top performer in the Dow Jones Industrial Average in 2009, returning 118 percent.

Total spending per American Express card averaged $8,665 in 2009, compared with an average of $3,073 for cards issued by banks that partner with San Francisco-based Visa Inc. and Purchase, New York-based MasterCard Inc., according to the Nilson Report.

“Everyone is trying to be American Express,” Orenbuch says. Down the line, he says, the competition may mean better pricing for the most-creditworthy customers.

Razzle Dazzle

The razzle-dazzle isn’t working yet. U.S. cardholders, still stung by recession, have spent less on plastic. Revolving debt fell by $9.4 billion in February, according to the U.S. Federal Reserve, compared with the same month a year earlier. Overall, consumer credit fell in February for the 12th time in 13 months.

“The banks are feeling the squeeze,” says Elizabeth Warren, who chairs the Congressional Oversight Panel of the government’s Troubled Asset Relief Program and has written four books about debt and the American middle class. Warren, who turns 61 in June, was first to map out the idea for the consumer agency, which President Barack Obama supports.

“Everyone has more credit cards than they want,” Warren says, sitting in the cafeteria of the Russell Senate Office Building on Capitol Hill before heading to a meeting at the White House. “There is no more growth.”

Baby Boomers

Shifting demographics, abetted by the financial crisis, will limit demand for consumer credit for years to come, says David Robertson, publisher of the Nilson Report. The business gathered steam as the post-World War II baby boom generation hit their peak spending years, he says. The next generation is smaller and, coming off the market crash, more cautious.

“There was a fantastic opportunity for the industry to grow with the baby boomers,” Robertson says. “Now you simply don’t have as many people entering their prime years.”

Gordon Smith, who joined JPMorgan’s Chase Bank as CEO of card services in 2007, has a different view. As the U.S. population grows, so will the card business, he says. Long-term behavioral changes, such as Internet shopping and the decline of checks and cash, are spurring the credit- and debit-card business.

“My guess is that the piece of plastic will be in place for a very long time,” Smith says.

JPMorgan Chase, the biggest U.S. card issuer with 145 million accounts and $163 billion in outstanding loans, more than doubled its direct mail offers in the last three months of 2009 from the previous quarter, according to Mintel Comperemedia, a Chicago-based firm that tracks such offers.

Competition

“We intend to go after all the best customers of all of our competitors,” Smith says.

The challenge is to sort out the good risks from the bad.

“There is a segment of people who will have a lot less credit available,” Smith says.

Chase has revved up models that compare customers’ total debt level with their income. The bank will likely end up offering credit to about 15 percent fewer customers, Smith says.

To Warren, who is also a Harvard Law School professor, pulling credit from the riskiest borrowers may be necessary. Many low-income card­holders, she says, were drawn in by “tricks and traps,” such as time-limited low rates.

“Millions of American families can’t pay off their credit card bills right now,” says Warren, who estimates that they’re spending $100 billion a year on fees and interest-rate payments. “Are their economic lives better off because they are spending the hundred billion? I don’t think so.”

Transparent Marketing

Warren says most people, regardless of income, should still have some access to consumer credit. She is pushing for lower rates and fees and simpler, more transparent marketing of terms.

“If the business model is to offer credit to every man, woman, child and dog in America in unlimited amounts, it just doesn’t work,” she says. “If it’s to offer a cheaper credit product to people who become more likely to pay, then that is sustainable.”

Bank of America’s Faulkner, who oversees $677 billion in deposits as well as a $150 billion card portfolio, says she has paid attention to surveys showing that customers want more clarity. In September, the bank slapped the decades-old brand name BankAmericard on a basic card, which has one rate (prime plus 14 percent) and one flat fee for late payments ($39). On its Web site, the bank cites its single-page disclosure form as a “key feature.”

“This was answering an unmet need,” Faulkner says.

20 Million Cards

Given the size of her franchise, Faulkner has a long climb ahead before she returns to a time when credit cards were Bank of America’s most reliable profit center. In 2006, CEO Ken Lewis paid $35 billion for MBNA Corp. and its 20 million card customers.

Until the first quarter, Bank of America’s card business had posted six straight quarterly losses, with many of its delinquent borrowers in parts of the country such as California, Florida and Nevada that were hardest hit by the collapse in housing prices.

At Citigroup, Galant is rethinking how revolving, unsecured lending relates to its customers’ other banking products. Among Citigroup’s ideas: the Forward card, which allows customers to earn a 0.25 percentage-point drop in their annual percentage rate, or APR, for three months of paying on time.

“Everybody now is saying, ‘We are going to pick the clients that we think are really safe bets,’” Galant says. “But what about the other 90 percent of people?”

Sioux Falls

Citibank passed out $80 billion in new credit to borrowers in 2009, including $21 billion in the fourth quarter, spokesman Samuel Wang says. The company is 27 percent owned by the U.S. government.

In Sioux Falls, Citigroup has grown to more than 3,000 employees in 28 departments from those 400 employees promised to Janklow in the 1980s. They occupy a 76-acre (31-hectare) campus near the airport, in three broad, low buildings, which include a day-care center and kindergarten. About 1,200 people work in the 24-hour customer service unit, where most sit in gray­fabric cubicles wearing headsets and taking calls from people who are having trouble with their credit cards.

Citi has enhanced efforts that let borrowers delay payments or reduce their interest rates, Wang says. The bank offers incentives and a consolidation program to help reduce card balances. About 490,000 people signed up for such help in the fourth quarter of 2009, compared with about 357,000 a year earlier, Wang says.

‘Hell of a Problem’

Three decades ago, Wriston had urgent business to conduct when he flew to South Dakota. Wriston, who ran Citicorp from 1970 to 1984, was struggling in the aftermath of the high inflation and interest rates of the time. In February 1980, the fed funds rate was 13.35 percent; New York law, meantime, had a statutory cap on consumer lending of 10.5 percent. Citi was losing money on every credit card loan it handed out -- even before factoring in accounting expenses and credit losses.

“Citibank had a hell of a problem,” Janklow says, reminiscing during a three-hour dinner on a March evening at Foleys Steakhouse in Sioux Falls.

Wriston had learned that South Dakota’s bankers were already pushing to jettison the state’s usury caps and that the legislature was in session and might be able to move fast, he says. When the law that some still call the “Citibank bill” passed, “I became a celebrity in credit card circles in America,” Janklow says, with a laugh.

Delaware Joins In

A year after South Dakota lifted its rate caps, Delaware also relaxed its usury rules. JPMorgan and Bank of America’s card businesses are both based in the Middle Atlantic state. Federal law allows banks to lend according to the rules of the state in which they are based.

Once South Dakota and Delaware knocked the lid off interest charges, the U.S. credit card business exploded. A big player in the 1990s was Capital One, which began as the credit card arm of Richmond, Virginia-based Signet Bank.

Capital One developed computer programs designed to assess customers’ shifting risk profiles. The statistical modeling allowed for a much broader range of rate offerings in which stable customers would get lower rates and riskier borrowers could be charged more.

With data suggesting that handing out more credit was a safe bet, card issuers bumped up limits, passed out second and third cards to existing customers and marketed to a broader group.

‘Smoking Gun’

As the years passed, banks were lulled into thinking they could manage any economic downturn, Nilson Report’s Robertson says. They didn’t bargain for a sudden, severe economic plunge.

“The industry believed that they had enough experience to manage unsecured credit to higher risk consumers,” Robertson says. “But no one anticipated the depth of the recession and the impact it would have on jobs. The unemployment rate is the smoking gun.”

Still, bank adviser Hammer says, the card business isn’t going anywhere.

“The customer got lost in the days of easy money,” he says. “Now they just have to be much smarter about how they do all of this.”

Janklow, the man who brought those jobs to Sioux Falls, was re-elected governor of South Dakota in 1982 with 72 percent of the vote. He served again from 1995 to 2003 and was elected to the U.S. House of Representatives. Then, his career was marred by tragedy.

Fatal Accident

In August 2003, while driving a Cadillac near his home, he struck and killed a motorcyclist. He was found to have been speeding and to have gone through a stop sign; he was sentenced to 100 days in jail. He left public life and is now practicing law.

Janklow is sympathetic to the woes of the industry that helped make his career, he says. Yet he understands the public anger at the high rates and fees. He still uses an AT&T-branded credit card he got in the 1980s because he was guaranteed no annual fee for life.

“There is an old saying in capitalism: ‘What you abuse, you lose,’” Janklow says.

The question now is whether the executives running the credit card industry have gotten the message.

Mortgage Windfall Misses Many

The Wall Street Journal

The Federal Reserve has pushed mortgage rates to near half-century lows, but millions of U.S. homeowners haven't benefited from that because they can't—or won't—refinance.

Falling home prices have left many owners with little or no equity, making it harder to qualify for refinancing. Moreover, stricter lending standards and higher fees by banks and mortgage giants Fannie Mae and Freddie Mac and declining incomes have made it tougher and less attractive for borrowers to seek new loans.

Around 37% of all borrowers with 30-year conforming fixed-rate mortgages—who collectively hold about $1.2 trillion of home loans—have mortgage rates of 6% or higher, according to investment bank Credit Suisse. Many could reduce their rates by a full percentage point if they refinanced at current rates, about 5%. More than half could lower their rates nearly three-quarters of a percentage point, according to Credit Suisse.

New refinance applications in January stood near their lowest levels in the past year. Weekly data compiled by the Mortgage Bankers Association also show that refinance activity has been muted, considering that rates are so low. "Traditionally, these borrowers would be aggressively refinancing," said Mahesh Swaminathan, senior mortgage strategist at Credit Suisse.

One indicator of the economic impact of refinancing: Loans that refinanced in 2009 will result in $3.4 billion in savings for consumers this year, according to a report by First American CoreLogic, a research firm based in Santa Ana, Calif. That will return an additional $17.2 billion in savings to borrowers over the next five years. That's money consumers can potentially use to help spur economic recovery.

About a quarter of all mortgage holders are "underwater"—they owe more on the house than it's worth—which normally makes it impossible to get refinancing: Banks want collateral to back the value of home loans they make. The Obama administration recently extended a program intended to help underwater homeowners refinance, but few people have tapped it so far. The program has faced logistical hurdles, delays and confusion from brokers and lenders.

Some people are so far underwater, refinancing ends up being out of the question. John Albright, a retired Navy officer in Manassas, Va., hasn't been able to refinance because the value of his home has plunged. He figures its market value is now around $275,000, but he and his wife still owe more than $500,000 on their mortgage.

Their refinance application was turned down last year because they lacked equity in the home. He says his lender told him he could refinance only if he could come up with about $200,000 to pay down his mortgage. So they are stuck with an interest rate of about 6.5% at a time when his wife's income has declined. "We're going from paycheck to paycheck, but what can you do?" Mr. Albright says.

Some mortgage bankers say higher fees by lenders have undermined the effort to encourage refinancing. Fees that Fannie and Freddie began imposing in 2008, as loan delinquencies began to rise, have made it unattractive for some borrowers to refinance. For example, a borrower with 20% down and a 695 credit score seeking to refinance must pay fees equal to 1% of the loan amount. Those fees rise for borrowers with weaker credit scores, higher loan-to-value ratios, or other risk factors.

Overcorrecting for the abuses of financial institutions "has defeated the Fed's purchase program," said Alan Boyce, a mortgage-securities-market veteran. Those loan fees, he said, are partly "responsible for why there's been no refi boom."

The higher fees and tight credit standards show the tensions facing Fannie and Freddie. As the government-controlled companies try to raise revenue to offset their losses, those efforts can conflict with their basic public-policy mission: to help stabilize the housing market.

Fannie and Freddie have to strike a balance between risk and access to credit. Figuring out "where that line is involves some trade-offs," said Edward DeMarco, acting head of the Federal Housing Finance Agency, which oversees Fannie and Freddie. The last time mortgage rates were at current levels, in 2003, refinancing activity hit $2.9 trillion, according to trade publication Inside Mortgage Finance. Last year, refinance volume reached $1.2 trillion, the highest amount since 2003 but not nearly as much as expected, considering how low interest rates have fallen. Traditionally, borrowers have an incentive to refinance when they can reduce their mortgage rate by one percentage point or more.

Borrowers who are refinancing tend to be those who need it least. Fannie and Freddie refinanced 4.2 million borrowers last year. On average, borrowers who refinanced through Freddie Mac saved $2,600 annually. But the savings on the whole have gone to "very, very good credit borrowers and it really isn't going very far down the credit spectrum," said Michael Fratantoni, the head of research and economics for the MBA.

The experience of Connecticut resident Cathy Grandahl shows some of the trade-offs borrowers must grapple with in today's low-interest-rate, high-fee environment. She wanted to refinance two loans on her West Simsbury, Conn., home: a fixed-rate mortgage with a 5.75% rate and a second mortgage with an adjustable rate that she worries will rise sharply in coming years.

Refinancing would save them around $125 a month on their first mortgage while providing a fixed rate on their second loan. But extinguishing that mortgage by refinancing into one larger loan—considered a "cash-out" refinance—would trigger an additional fee.

That, plus several thousand dollars in closing costs, ultimately persuaded the couple not to refinance after all. "It's not a matter of our credit. We just can't get a good enough rate to make the refi worth it," says Ms. Grandahl, a 53-year-old land-records researcher who has three children in college.

Falling home values are one of the biggest factors raising borrowers' refinancing costs. Borrowers with less than 20% equity may have to pay for mortgage insurance.

On Monday, the Obama administration said it would extend for a year a program launched last April to help homeowners with little or no equity to refinance. That program, which had been set to expire this June, was called a "failure" last week by analysts at Barclays Capital. While the administration had said it would benefit millions, so far just 188,000 borrowers who owe between 80% and 105% of the value of their homes had refinanced through December.

Last September, it was expanded to include borrowers who owe up to 125% of their home value, but fewer than 2,000 borrowers have used that program through December.

Bernanke: We Must Be Open To Rate Hikes To Burst Asset Bubbles

The Wall Street Journal

The U.S. Federal Reserve must be open to raising interest rates to pop asset bubbles, even though stronger regulation remains the best solution to prevent a repeat of the crisis, the Fed chief said Sunday.

Fed Chairman Ben Bernanke said all efforts should be made to strengthen the U.S. regulatory system to prevent a repeat of a financial crisis that Bernanke described as possibly the worst in modern history.

"However, if adequate reforms are not made, or if they are made but prove insufficient to prevent dangerous build-ups of financial risks, we must remain open to using monetary policy as a supplementary tool for addressing those risks--proceeding cautiously and always keeping in mind the inherent difficulties of that approach," he told an annual meeting of economists here.

The Fed has been criticized for keeping interest rates too low for too long in early 2000, helping to fuel a housing bubble at the root of the recent financial crisis.

Although admitting that monetary policy was accommodative in early 2000, Bernanke said the housing bubble was likely the result of exotic alternative mortgages that could have been prevented with better regulation.

Until now, the Fed's main strategy has been to mop up after a bubble burst with lower interest rates to cushion the blow to the economy, instead of trying to prick a bubble pre-emptively by raising rates.

Such a strategy was a key conclusion of Bernanke's writings on the subject of bubbles when he was an economics professor, and again when he first came to the Fed as a governor in 2002.

"Clearly, we still have much to learn about how best to make monetary policy and to meet threats to financial stability in this new era," Bernanke told the American Economic Association.

"Maintaining flexibility and an open mind will be essential for successful policy-making as we feel our way forward."

Fed To Hold Steady On Interest Rates

NY Times

The Federal Reserve signaled on Wednesday it was not close to raising interest rates, saying that the economy remained weak even though the recession appeared to be over, Edmund L. Andrews writes in The New York Times.

In a move that could spell the continued success of investment banks’ fixed-income units, the Fed said it would keep its benchmark interest rate at virtually zero, and it made no change to its longstanding mantra that economic conditions were likely to warrant “exceptionally low” rates for “an extended period.”

For practical purposes, analysts said, policy makers are still at least six months away from tightening monetary policy.

“Economic activity has continued to pick up,” the central bank said in a statement after its two-day policy meeting. But policy makers quickly cautioned that consumer spending would be sluggish, businesses were still cutting back and economic growth would be “weak for a time.”

Despite speculation that the Fed might hint about raising interest rates in order to head off future inflation, it was unclear on Wednesday whether policy makers even discussed a change in the wording of their guidance.

Policy makers did elaborate on the economic indicators they will be watching most closely. Those will be the level of “resource utilization,” which primarily means the unemployment rate, the trend in inflation, and the stability of inflation expectations.

officials have made it clear they thought unemployment and slow growth were still the main economic threats

The government estimated last week that the nation’s economy grew at an annual pace of 3.5 percent in the third quarter, its first quarterly expansion in a year. But much of that activity stemmed from temporary stimulus measures like the home buyers’ tax credit and the “cash for clunkers” program.

The Fed chairman, Ben S. Bernanke, has cautioned that the recovery was fragile and that unemployment would remain high through the end of next year. The average forecast of Fed policy makers anticipates that the jobless rate, now 9.8 percent, will peak above 10 percent next year and remain well above 9 percent until some time in 2011.

Within the central bank, officials have begun debating when they should start signaling a rollback of its rescue measures. But while some of the Fed’s more hawkish policy makers have publicly suggested it might soon be time for tighter policy, Mr. Bernanke and other officials have made it clear they thought unemployment and slow growth were still the main economic threats.

The central bank did make a tiny reduction in its effort to prop up the mortgage market. It said it would buy slightly fewer bonds issued by agencies that guarantee home loans — $175 billion, rather than $200 billion it originally expected. But it said the change stemmed from a shortage of such securities. The Fed made no change to its much bigger program to buy $1.25 trillion worth of mortgage-backed securities by the end of next March.

“The one consistent theme with all the Fed speakers is that they’re not going to raise rates any time soon,” said Drew Matus, a senior economist at Bank of America-Merrill Lynch. “That is the one consistent theme that gets hammered home time and again.”

Beyond saying that “economic conditions” would continue to warrant “exceptionally low” rates, policy makers said those conditions included “low rates of resource utilization,” “subdued inflation trends” and “stable inflation expectations.”

Fed officials face competing challenges as they try to get monetary policy back to normal over the next several years. They need to make a judgment about timing — tightening too early could send the economy back into a downturn, as happened during the late 1930s; waiting too long would set the stage for inflation.

But policy makers also want to avoid jolting financial markets, which will require them to communicate their plans in advance. They are also grappling with novel questions about their exit strategy. In their statement on Wednesday, Fed officials made it clear they were still seeing little risk of higher inflation, adding that “substantial resource slack” — a euphemism for high unemployment and unused factory capacity — would keep inflation “subdued.”

The Fed’s preferred measure of inflation, which excludes prices of food and energy, has climbed by less than 1.5 percent over the last year, well within Mr. Bernanke’s unofficial comfort range of 1 to 2 percent.

The overnight Federal funds rate, the interest rate that banks charge for lending their reserves to each other, has been held between zero and 0.25 percent since last December.

In addition, the Fed has tried to pump up financial markets and the economy by more than doubling the size of its balance sheet, creating more than $1 trillion in new money for its emergency credit programs and to drive down long-term interest rates by buying Treasury bonds and mortgage-backed securities.

Fed officials have already cut back some of their emergency loan programs and stopped buying Treasury bonds, and they have said they would soon stop buying mortgage securities.

To tighten monetary policy, Fed officials will have to raise interest rates and start cutting the size of its balance sheet by selling the securities it has acquired.