Helping Consumers Understand the Real Costs of Credit Cards

If consumers are to make informed choices about credit cards and other financial products, they need to understand how much these products cost them over time. Regulators often require financial institutions to provide consumers with the information they need in the form of disclosures. However, disclosures may fall short if they are difficult for consumers to understand.

One example of a difficulty is the annual percentage rate (APR), which reflects the annual cost of borrowing money. Consumers who are confused about how to interpret the APR may not know whether a certain credit product is a good or bad deal.

In a paper published in the March 2019 issue of the Journal of Experimental Psychology: Applied, Alycia Chin and Wändi Bruine de Bruin aimed to understand how consumers interpret a potentially confusing attribute such as APR.

In their first study, they asked consumers to evaluate different credit cards on the basis of standard disclosures. On average, consumers largely underestimated the relative costs of credit card offers. For example, consumers reported that a credit card with an APR of 17.99% was more expensive than 36% of credit cards; in fact, it was more expensive than 84% of credit card offers mailed to consumers at that time.

To address this problem, Chin and Bruine de Bruin’s second study examined a strategy for improving consumers’ understanding of whether a given APR is a good or bad deal. Specifically, they tested the usefulness of graphs for disclosing how APRs are distributed in the credit card market by adding histograms, box plots, pie charts, and combination probability density/cumulative density charts to standard credit card disclosures.

All graphs except the box plot improved consumers’ ability to identify credit card APRs that were relatively expensive, compared to those who viewed a standard disclosure without a graph. However, only the disclosure with the histogram led consumers to recognize that expensive credit cards were less attractive and reduced their intention to apply for the card if they received that offer in the mail.

Thus, modifying financial disclosures to include histograms with distributional information about APRs can improve consumers’ ability to evaluate relative credit card costs. Without this information, consumers may struggle to identify whether the credit card offers they receive represent a good or bad deal.

Policymakers often ask whether and how they can make disclosures more effective for consumers. This research addresses the problem of helping consumers realize that a credit product is more expensive than available alternatives. Although the study focused on credit cards, the findings can be applied to a variety of financial products, including mortgages, car loans, and mutual funds.

Citation

• Chin, A., & Bruine de Bruin, W. (2019). Helping consumers to evaluate annual percentage rates (APR) on credit cards. Journal of Experimental Psychology: Applied, 25(1), 77–87. https://dx.doi.org/10.1037/xap0000197

Note: This article is in the Basic / Experimental Psychology topic area. View more articles in the Basic / Experimental Psychology topic area.

Alycia Chin is a behavioral economist at the Public Company Accounting Oversight Board in Washington, DC, who specializes in consumers’ and investors’ financial behavior. Her recent work examines the efficacy of disclosures for consumer financial products, the types of consumers who seek out financial education, and consumers’ mortgage shopping behavior. She has previously worked in several US government agencies, including the Consumer Financial Protection Bureau, Securities and Exchange Commission, and Federal Reserve Board.

Wändi Bruine de Bruin is Provost Professor of Public Policy, Psychology, and Behavioral Science at the University of Southern California (USC) Sol Price School of Public Policy and Department of Psychology, as well as a senior fellow at the USC Leonard D. Schaeffer Center for Health Policy and Economics. Her research uses insights from the field of behavioral decision making to understand and inform people’s decisions about their health, finances, and environmental footprint. She has served on expert panels on improving health and science communication, including for the National Academy of Sciences.