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Consumers Purchasing on Credit Analysis

The United States currently enjoys the “highest standard of living” in the world: more food, clothing, bathtubs, automobiles, household appliances, and toothpaste is available per consumer than in any other country; everything is bigger or better or more plentiful than elsewhere. By and large, Americans take their material well-being for granted or, when they do reflect about it, credit it to American progress. For not only are American consumers better off than their contemporaries in other countries, but their possessions and their way of life clearly surpass those of Americans of an earlier generation (Bertola 2006). Not only income, but consumer choice, can reflect the influence of age, race, occupation — and many other factors. Yet any consumer must choose among abundant alternatives, not because his age or occupation restrict him, but because his purchasing power is limited. Even though his “scarce means” may include savings or borrowing, the sums from these sources are not infinite — but their alternative uses are. The consumer’s problem is therefore clear.

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Consumer credit is used to purchase non-investment goods. A consumer opens a credit account and the issuer (a bank or any other financial organization) lends money to the client to be paid for goods. Credit cards allow consumers to return their credit at the cost of interest charge (Hilton 2003). Every day families and individuals solve the problem of having limited purchasing power yet unlimited alternatives from which to choose — and their choices help determine production and employment and income in the economy as a whole. But figures for total spending or saving tell little about the process of consumer choice. Consumers who use credit can buy either of two quite different services: the conveniences of periodic billing and payment, and the ability to make “fractional payments,” commonly known as “buy now, pay later” (Bertola 2006). To the seller, any extension of credit involves costs, not only in the transfer of purchasing power from seller to buyer (a shift of capital), but also in the collection process. Such costs must be met: they are absorbed as a cost of doing business by the retailer who offers “conventional” charge accounts, but there is a variety of service or finance charges to the consumer that are connected with installment sales, bank credit cards, revolving credit, and so on (Bertola 2006). Protecting consumers against “too high” credit costs by regulating sellers or the fees they charge may have the effect of restricting the alternatives available to consumers; protection that insists on complete information, and prohibits false or misleading claims, can widen the range of consumer choice (Bilker 1996). Credit extended for the purchase of merchandise is not subject to laws against usury or to small-loan laws, for the difference between cash and credit payments is a “time-price differential,” rather than one of interest. However, just as small-loan laws, which permitted a higher rate of interest than that allowed by most anti-usury laws, enabled new forms of business to offer credit to consumers, so laws that regulate purchase credit may support the efforts of competitive business against the methods used by unscrupulous victimizers of the consumer. The benefit of purchasing on credit is that consumers receive a chance to buy expensive goods such as houses and automobiles (Finley 2006).

American economy depends on credit because competition among particular firms is more intense, and has more effect on the process of consumer choice, in market areas such as the men’s clothing business, the furniture trade, or drug stores. But since each of these has a counterpart in consumption expenditures, survey data can provide quantitative estimates of the size of the market. In order to avoid the difficulties of dealing implicitly with saving as well as with income, expenditures on these goods and services are shown as percentages of total current consumption spending (Finley 2006). For at low income levels, such total spending frequently exceeded total income, since consumers used past savings or borrowing to augment current income in order to spend. For example, the 10 per cent of all families and single consumers whose incomes ranged between one and two thousand dollars spent, for food, amounts that represented 35 per cent of their after-tax income. The percentage of families who own their homes is larger in each successively higher income class, yet the percentage of total spending for “owned dwelling” changes very little above the median income class (Bertola 2006). Since expenditures include payments of interest on a mortgage, and for new home owners the proportion of interest to principal in each payment is substantial, average housing expenditures reflect the number of home owners rather than their income. Rent expenditures, on the other hand, drop fairly precipitately, and show an absolute decline at higher income levels (“Credit Scores” 2005).

From extending edict to farm families to tide them over seasonal production and income, the owner-manager might develop a banking business or dealings in real estate; he frequently became a partner in local industry — a tannery, sawmill, or mine (Bilker 1996). Because he traveled to cities on buying trips and was called on by occasional jobbers, he provided firsthand reports to supplement the weekly periodical or days-old county newspaper; he was a central source of local news. In urban areas general stores persisted, although other kinds of retail outlets were appearing rapidly. The growth of specialization can be traced by comparing the number of towns with particular types of stores: while nearly every town reported at least one general store, 80 per cent of them had at least one grocery store, two-thirds had a drug store, and 60 per cent at least one dry-goods retailer (“Credit Scores” 2005). It is also clear from the last column of this table that food stores were among the very first to specialize, for grocers, meat markets, provisioners, fruit stores and confectioners were significant subdivisions. If consumers use credit for an increasing number of purchases, both retailers and manufacturers may vary their product: the former by offering a variety of revolving credit systems, the latter by setting up subsidiary finance corporations to handle installment paper. If the shopping process shifts the delivery function from retailers to consumers, manufacturers may vary their product by packing toys and furniture for assembly at home, turning out a “handi-size” packet for a car’s glove compartment or a “giant economy size” carton with convenient carrying handles (Bilker 1996).

The main problems caused by credit are debt and high interest rates. When consumers buy, they must pay for their choice; sellers, therefore, must have some way of receiving payment. The new forms of retailing led to new policies and techniques for receiving consumers’ payments (Bertola 2006). Credit sales had been typical of the small store, whether urban specialty shop or general store, and had imposed higher costs on both consumer and retailer. But both supporters and opponents of the percentage provisions agree that in many cases consumers would find the charges, once they were expressed as a simple annual rate, “too high” (Hilton 2003). Stating finance charges as a per cent per annum for installment-sales contracts, or for small loans that normally run over a year, would therefore be readily understood. Without contemplating such a marked change as inevitable, it is possible to predict that credit, which already provides for both fractional payment and the convenience of periodic billing and payment, will take new forms, thereby altering cost conditions to sellers and alternatives of choice to consumers. In order to avoid such problems as debt, consumers should pay attention to their spending and review each month number of purchases and the sum spend on them (Bilker 1996). Unlike laws that have been enacted at the state level, the proposed Federal legislation would further require the cost of credit to be stated, prior to the transaction, in terms of “the percentage that the finance charge bears to the total amount to be financed expressed as a simple annual rate on the average outstanding unpaid balance of the obligation.” In the case of revolving credit, the bills proposed would require a statement of “the simple annual percentage rate or rates at which a finance charge will be imposed” (Finley 2006, p. 6) plus, in each monthly accounting to the customer, the finance charge actually imposed, calculated on the basis of a similar simple annual percentage rate (Finley 2006).

In sum, consumer credit benefits the American citizens and the economy. Keeping markets actively competitive, therefore, is undoubtedly the most efficient and powerful technique for protecting consumers. What this means, chiefly, is preserving unlimited freedom of entry for new sellers. A shift in consumer preference can destroy a monopoly more effectively than any antitrust ruling; if firms are free to introduce new and varied alternatives, such a shift becomes possible. It remains, therefore, to analyze the seller’s process of innovation, which can, ideally, both protect the consumer and at the same time increase his freedom of choice. The model of monopolistic competition places its emphasis on sellers’ attempts to differentiate their offerings via variations in the product or service or shipping process rather than price competition. It should be clear that consumers can gain maximum satisfaction only if they are free to select their own patterns of spending and saving. Whenever income is paid in kind, that freedom disappears. The original argument that a diminution of consumer credit would follow from truth-in-lending legislation, and that such a decrease would promote economic stabilization, has been more or less abandoned; the goal of promoting an informed consumer decision remains. The point at issue is whether consumers need to know what the finance charges are by seeing them stated in percentages, as well as money terms.

Works Cited

Bertola, G. The Economics of Consumer Credit. The MIT Press, 2006.

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Bilker, S. & Debt Management: A Step-By-Step How-To Guide for Organizing Debt & Saving Money on Interest Payments. Press One Pub, 1996.

Credit Scores, Credit Cards: How Consumer Finance Works: How to Avoid Mistakes and How to Manage Your Accounts Well. Silver Lack. Silver Lake Publishing, 2005

Finley, D. Consumer Credit Fundamentals. Palgrave Macmillan, 2006.

Hilton, S. To Pay or Not to Pay: Insider Secrets to Beating Credit Card Debt and Creditors. Adams Media Corporation, 2003.

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