American consumers will have to face yet another bubble soon. This one doesn’t have anything to do with housing, bitcoins or the internet. Instead, the newest one involves the plastic cards most of us carry around in our wallets — more specifically, their rewards. Over the last few years, credit card mania has swept the nation. Countless articles, blogs and forum discussions center on maximizing your miles and bonuses, with promises of free travel or mounds of cash back. The reward currency is at an all-time high, with many cards giving consumers as much as 5% to 10% back on purchases . The average consumer can walk away with thousands of dollars in rewards per year. Unfortunately, this may not be sustainable for much longer.
Business owners subsidize credit card reward programs in the United States. Anytime you make a purchase using your favorite card, the issuer takes a cut of the sale away for the merchant. The interchange fee, as it’s called, comes out to roughly 2%. Credit card issuers take their piece of the pie, and pump the rest into the rewards programs everyone enjoys.
In recent years there have been several pushes by retail associations and lobbyists to curb interchange fees. They argue the charges are unfair and present a burden to small business owners operating with thin margins. Visa V -0.12% Inc. and Mastercard Inc. are also battling retailers in the courts over allegations of price-fixing schemes. They are facing off against giants like Wal-Mart Stores WMT +0.12% Inc., and Amazon. Last month, Visa and Mastercard offered a $5.7 billion settlement to end the proceedings. The federal appeals court rejected their proposal.
How Credit Card Rewards Perform Around The Globe
Credit card rewards are significantly weaker in Europe and Australia. This is largely due to regulations that curbed merchant fees. In 2015, the European Parliament passed restrictions on interchange charges locking them to a maximum of 0.3%. Soon thereafter, Capital One’s EU division cut cash back rewards from 1.5% to 0.25%.
The United States isn’t the only country in the world where merchants pay high premiums for accepting card payments. In some Asian countries, like Singapore, retailers pay as much as 3.4%. Unsurprisingly, we see the same inflated credit card rewards in these places.
The Rewards Bubble Will Likely Continue To Grow (For Now)
Credit card rewards and bonuses are likely to increase over the next couple of years. There are rumors of a new Chase credit card releasing at the end of the month with a bonus valued at $1,500. Such a welcome offer would be one of the highest to-date, and something that would be unheard of just a few years ago. Given the trends we’ve seen this year, it’s clear U.S. card issuers are willing to pay more. Giving consumers even $100 more in rewards can make a card to be the next ‘must-have’, prompting more sign-ups and more spending. Every bank wants their card to be the one consumers carry at the top of their wallet.
Part of what is fueling the continued growth of rewards is the tight competition. After a rough year, American Express AXP -0.15% has begun doubling down their efforts to attract new customers. To do this, they have begun offering their highest bonuses yet. Barclaycard has been showering cardholders with generous retention offers as they hold onto their existing American Airlines co-branded credit card user base.
Discover Financial Services offers excellent insight into how companies are approaching rewards. They are one of the largest credit card issuers in the nation, and have been consistently spending more and more on rewards over the last six years. This has lead to incremental increases in interchange revenue.
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The dip around Q4’2015 was the result of Discover’s one-time elimination of $178 million in credit card rewards forfeiture reserves.
For Consumers Bonuses & Retention Offers Are The Way To Go
Consumers should take advantage of this economy. However, they need make sure to approach it with a level head. There are enough high credit card bonuses on the market for anyone to find something that will appeal to them. Some top-notch cards will offer free airline tickets, hotel stays or hundreds in cash back. In return, most require you to swipe your card and meet some minimum spend requirement – typically between $500 and $3,000.
Be careful. It’s very easy for high rewards to cloud your judgment . To some, the thrill of big bonuses is irresistible. This creates a potentially dangerous financial trap. Never apply for a card without carefully examining its fees. You don’t want to end up paying for a ton of hidden costs you didn’t see coming. Secondly, opening multiple new lines of credit can negatively impact some credit score models.
You can also get extra rewards through retention offers. If you’ve had the same credit card for many years, call the customer service line. Ask about any special promotions that may be going on. The customer service department will sometimes award you points as a loyalty bonus or may tell you about a way to get free miles/points. Even though there is no guarantee, it never hurts to call and ask.
You can read more of Robert’s credit card coverage and analysis at ValuePenguin, a personal finance research site.