UK credit cards: margin pressure drives cutbacks

30th August 2005

The issue of declining margins continues to affect the UK credit card industry, and has caused several card issuers to withdraw or cut back on their product offerings. Recent Moneyfacts data has revealed numerous reductions in loyalty program incentives in recent months and, with potential price rises and yet more cutbacks looking likely, consumers have some cause for concern.

Over the past year there has been a growing trend for institutions to withdraw incentives, such as loyalty points or cash back, that were once used to entice customers. Sainsbury's Bank recently stopped offering loyalty points to new customers, and other major players including Egg and Royal Bank of Scotland have changed or withdrawn loyalty schemes in recent months.

The cutbacks come amid tough market conditions, which have put the squeeze on card issuers in particular. There are three broad income streams for UK credit card issuers: interchange, interest, and fees. Although interest revenue is the most important of the three, this revenue stream has faced the brunt of recent competitive pressures. UK issuers have competed heavily on the basis of price over recent years, driving down the average standard purchase rate from a level of 18.6% in June 1999 to 16% in March 2005.

Introductory purchase and balance transfer rates have also fallen over this period, further depressing revenues. Offering promotional rates imposes a net cost on issuers, and this has resulted in increased customer churn. The emergence of 'rate tarts' has hit issuers in the wallet, and has led many to introduce handling charges on balance transfers to guarantee at least some revenue from these customers.

UK issuers have also had to contend with rising funding costs. Despite the recent cut, base rates remain higher than they were two years ago, and this has further squeezed interest margins. In addition, one-off costs, such as the migration to 'chip and pin' technology, have also hit issuers financially, with the result that profitability is reliant more on scale than ever before.

In this environment, it is no surprise that some card issuers have begun to cut back on rewards. Furthermore, with the OFT currently investigating both default charges and domestic multilateral interchange fees, there remains considerable scope for yet more cuts in issuer revenues. This will force issuers into making further adjustments to both product price and loyalty benefits, which can only be bad news for consumers.