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A pragmatic decision on credit card fees

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OF ALL THE Obama administration’s efforts to beef up financial regulation, none is more controversial than the creation of the Consumer Financial Protection Bureau (CFPB). To foes, CFPB is a menace to free markets; to supporters, it is the scourge of financial rip-off artists.

Republicans blocked the appointment of populist Elizabeth Warren as the agency’s first director and tried to block President Obama’s next choice, Richard Cordray. When Mr. Obama used his recess-appointment power to install Mr. Cordray three months ago, he did so at a rally in swing-state Ohio, telling the crowd there that Mr. Cordray’s “job will be to protect families like yours from the abuses of the financial industry.”

So it’s notable that consumer organizations are expressing disappointment with one of Mr. Cordray’s first major regulatory actions. Last week, he announced that the CFPB would propose a rule broadly favorable to banks that issue credit cards with low credit limits, high interest rates and stiff fees. These cards, marketed to people with impaired credit, have long been criticized by consumer advocates, who call them “fee harvesters.”

As far as we can tell, though, Mr. Cordray is trying to follow the law. A 2009 statute bars credit-card issuers from charging fees exceeding 25 percent of a card’s credit limit — say, $75 on a $300 card — during the account’s first year. Last year, the Federal Reserve, which had regulatory authority prior to the CFPB, interpreted the law as also banning “processing” fees charged prior to account activation, which was the method used by a South Dakota company, First Premier Bank, that claims 20 percent of the market for high-fee, low-limit cards.

But First Premier sued, and in September a federal judge in South Dakota ruled in its favor, finding that “nothing in the plain language of the statute” supported a ban on pre-activation fees. Mr. Cordray’s decision implies that he believes the ruling is well-founded. The public has until June 11 to comment on CFPB’s proposed rule allowing banks fees prior to the opening of an account.

Undoubtedly, high-fee, low-credit-line cards offer customers an expensive way of borrowing not much spending money. Equally certainly, a high percentage of those who accept these offers default, ending up with nothing but collection notices and further impairment of their credit ratings.

In its lawsuit, First Premier acknowledged that its customers fail to pay back “more than 40 percent” of what they owe — about 10 times the charge-off rate on all cards, according to Moody’s. So it’s understandable that consumer advocates decry such products. Surely, many consumers might be better off with alternatives such as debit cards or secured credit cards.

Nevertheless, credit cards are a near-necessity of modern life — a prerequisite for hotel reservations and car rentals. For some customers, there might be no alternative to a high-fee card but a payday lender or the local pawn shop. And for those who can afford to buy this modest extension of credit and then stay current on the subsequent payments, a “fee harvester” card may be the first step toward a restored credit rating and lower borrowing costs later on.

Both sides in this debate make claims that are plausible in theory but unsupported by systematic data. The CFPB and the public could benefit from definitive studies on the financial and social impact of these cards. In addition to its rule-making authority, the CFPB has broad information-gathering powers. This is an opportunity to use them.

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