Effect of Credit Card

8/11/2019 Effect of Credit Card

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The fear also hit credit card growth and cautious banks slowed down their effort to spread the credit

business. The volume of credit card loan was Rs.44 billion until June 2008 and fell down Rs. 9 billion in

12 months to Rs.35 billion. As credit cards earn highest profit for the banks world over, this is a loss to

banking sector since the interest rate on credit cards was in the range of 35 to 40 percent per annum.

Problem statement:

We have defined the problem statement as follows:

Does the use of credit card affect the consumption pattern of consumers?

Literature review:

The development of controlled credit card network has allowed the use of credit card to expand and

become more persistent. This has been possible only because of the increased co-ordination between

credit card companies and merchants. Due to the reason, that credit card industry has become the part

of the complex system which makes travel services widely available to consumers, it has become

possible for the credit card companies to be familiar with the consumption habits of customers. When

consumers use credit cards to make purchases, extensive data about the transaction can be collected.

(Adam Weaver - Passports to Pleasure': Credit Cards and Contemporary Travel)

Surprisingly, there have been very few researches to assess the correlation between credit card usage

and level of spending. However there have been many empirical and theoretical studies to explore

these closely related issues and simple observations have proved that people appear o spend more

with credit cards. (RICHARD A. FEINBERG- Credit Cards as Spending Facilitating Stimuli: A

Conditioning Interpretation)

This issue that whether credit cards promote spending or not is of great importance to economists, law

and public policy. If it can be proved that that credit cards make people spend more and save less or if

there is a long-term desire to increase personal saving, can cause regulation or even banning of credit

cards. (Elif Incekara Hafalir, George Loewenstein)

Another aspect of increased usage of credit cards is the matter of trust and distrust for the bank as well

as the users. Banks must very carefully think about substituting inter personal relationships with

technology while striving to motivate customers to adopt online banking, because the absence of

human contact may decrease trust in the mind of consumers. (Trust and Distrust in Online Banking:

Their Role in Developing Countries John Skip Benamati and Mark A. Serva)

Here the question arises that why should consumers use credit cards to finance purchases? The

answer to this is quite simple. Consumers want to maintain their life styles over their life time eventhough their income and wealth may vary with time. Older consumers can utilize their past savings and

consume more than their current income. Similarly, young consumers who are expecting their future

income to be higher than their present income can borrow from future income to support present life

style. This process is also known as consumption smoothing. Through consumption smoothing, credit

card users are well able to maximize their life time utility. (The Effect of Credit on Spending Decisions:

The Role of the Credit Limit and Credibility Dilip Soman * Amar Cheema)

Credit cards offer both the advantages of convenient exchange medium and generation of revolving

credit. While the former is used by rich and high status card holders, latter is popular among low

income and socio-economic group. Therefore analyses of credit card use and user characteristics

should take both considerations into account. Evidences are found that incorporation of both elements

in the same model also changes the spending behaviuor as a whole and increases the spending of

consumers. (Credit Cards: An Interdisciplinary Survey GILLIAN GARCIA)

As a way of smoothing irregular consumption and income flows, credit cards compete with bank loans


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and other forms of financing. They allow individuals to borrow amounts within their credit limit. When a

large amount of money is easily available the spending pattern also changes and results in more than

usual spending. (Consumer Rationality and Credit Cards Dagobert L. Brito and Peter R. Hartley)

Hypothesis:

Financial institutions issue credit cards which are used by consumers as a payment device and a

source of revolving credit. On the basis of main uses of credit cards, consumers have been defined into

two segments: users and revolvers. Convenience users use credit card as an easy mode of payment topay off their bills upon receiving the account statement. On the other hand, revolvers use cards as a

mode of financing and elect to pay interest charges on the unpaid balance. When consumers use credit

card as a mode of financing, credit cards compete with bank loans and other forms of financing. The

difference is in the ease and convenience of use and acquiring the credit where credit cards take

precedence over other forms in the short term. (Vathsala Wickramasinghe1 and Anurudh

Gurugamage-Consumer credit card ownership and usage practices: empirical evidence from Sri

Lanka)

Therefore, based on the above understanding it is proposed that:

H0: Use of credit card does not affect spending.

H1: Use of credit card increases the spending.

Methodology:

The methodology of our research is based on the research of Elif Incekara Hafalir and George

Loewenstein of Carnegie Mellon University in which they conducted a field experiment to measure the

impact of payment with credit card as compared with cash. We randomly changed some diners'

payment medium from cash to a credit card by giving them an incentive to pay with a credit card and

then observed the change in their spending behavior.

Sample size:

We selected a sample size of 50 participants to conduct our research; participants were selected from

five major areas of Karachi including Defence/Clifton, Gulshan-e-Iqbal, North Nazimabad and

Buhadarabad/Tariq Road to represent whole population.

Experimental design:

We chose to collect data using three types of techniques:

1. observation

2. questionnaires

3. in-depth interviews

Design 1:

For the purpose of observation, we chose five restaurants in different localities of the city and we

conducted waves of data collection with dinner time customers. The restaurants accepted both the

cash and credit cards which was a necessary condition to run the study. The restaurants offered abroad selection of differently priced items, and had changing menus. The variety and range of prices

meant that diners could pay more or less for their dinner, so that if credit cards did promote spending, it

would be possible to observe such an effect.


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There were 75 observations in total; we dropped 12 observations which were not usual dinner

purchases (e.g. purchase of a snack or a drink only). We also dropped 10 observations which included

participants who stated that they used cash but would have used credit card if it weren't for our

intervention in the treatment condition (which rewarded them for using a credit card). These people

might have chosen to use cash instead of credit in order not to disclose identifying information

(although we told them we would erase any identifying information on the receipts beforehand) or

because they felt manipulated. We excluded these people since the aim of the treatment was to induce

consumers to switch from cash to credit but not the other way around, although our results are barely

affected by including them. We also excluded 3 participants who had participated before.

As an incentive we told the customers that if they participated in our study, we will give them a special

gift pack. Upon their consent to participate in our study, we asked them to place the order again and

after they had their dinner, we took their receipts from them, canceled the credit card number and

stapled the receipt on a questionnaire. The participants were then asked to fill up the questionnaire and

return it to us before leaving; this is when we presented them a special gift pack.

Result:

After this exercise, we observed that 78% of the people increased their order from 8 to 20 percent.

Therefore, this would provide strong support for the prediction that credit cards make people spend

more.

Design 2:

QUESTIONAIRRE

CREDIT CARDS

16

Age:

* 18-25

* 26-35

* 36-45

Gender:

Male

Female

16

16

Education:

* Undergraduate

Graduate

Post- graduation

Yearly household income (Rs.)

* Up to 50,000


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* 50,001- 75,000

* 75,001- 100,000

* 100,001-150,000

* Above 150,000

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Q1. Did the promise of gift card affect your payment medium?

* Yes

* No

Q2 (a). Did you pay for anyone else's dinner?

* Yes

* No

Q2 (b). If YES, for how many people?

_________

Q3. Did you know what food you will buy before entering the restaurant?

* Yes

* No

Q4. Do you own a credit card?

* Yes

* No

Q4 (b) If yes, are you carrying your credit card right now?

* Yes

* No

Q5. Do you know the interest rate of your credit card?

* Yes

* No

* Not sure

Q6(a) Do you have an ATM card?

* Yes

* No


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42 people owned a credit card while the rest 8 were using either parents' or spouse's card.

Surprisingly, only two of the participants knew the interest rates of their cards while the rest were either

not sure or they simply didn't know. This shows that while using credit cards people do not much care

about the interest rate as compared to the convenience they get in having a credit card. Similarly only

64 percent people owned an ATM card out of which 84% (32) were carrying it with them. Still 64%

believed that use of credit card increases their spending. The reason might be convenience in present

and future spending as well as ease of record keeping.

When asked about the reasons to hold a credit card, the top most reason were convenience and

prestige. Some people also said that they used credit cards for easy record keeping and to cover

emergency needs. The younger audience had a reason to keep up with friends and family and also to

maintain their social prestige. Some also kept credit cards to delay future payments. However, since

purchasing through internet is not very popular in Pakistan therefore not many people were interested

in this benefit of credit cards.

Hence, through this survey we found out that a large number of Pakistan's urban population holds

credit cards because it is considered as a symbol of prestige and helps them gain high social

acceptance. Due to the convenience in its use, most people use credit cards for regular purchases and

through observation we have seen that using credit cards increases spending both in present and

future.

Design 3:

To gain in-depth knowledge about the subject, we interviewed an expert Mr. Shehzad Kharadi of Bank

Alfalah. The summary of discussion with Mr. Shehzad is as follows:

A perception of the perfect world is such that everyone would avoid too much credit and debt and would

not want to deal with the desperation of being unable to meet credit obligations but this isn't a perfect

world we are living in, and unfortunately these distressing situations are the norm for many people. Ifsomeone finds him/herself in this position, or headed there, he/she should control of his/her spending

at that moment and should not wait until the situation is too dire that only a few options are left

available.

Facing the factors that give you the urge to spend more than your income can be uncomfortable, but if

one can't face them, he/she may never get control of their spending and debt. An important aspect

here is that if you are always trying to pay off debts on the past purchases, how will you get things

which you want in your future?

One negative aspect of using credit cards instead of cash is that you tend to spend more because you

don't feel like you're spending real money. The pleasant feelings you experience when you purchasethe item are disconnected from the unpleasant or painful feelings of making the payment when you get

the credit card statement. Studies have revealed that most people are much less likely to buy, or less

willing to spend as much, when paying with cash as opposed to credit cards. Try leaving your credit

cards at home. Pay with cash, check, or a debit card.

To get control of your spending and your credit card debt, you need to examine what money means to

you. Make an effort to notice how you interact with money and what beliefs and attitudes you have

about money.

Studies also show that people with low self-esteem engage in more impulsive spending and buying

things they don't need. Remind yourself daily that money or a lack of it doesn't determine who you are.

Your worth as a person has nothing to do with how much money you have. Once you truly believe this,

and money is no longer connected to your sense of self-worth, you open up the psychological barriers

that were keeping you from wisely handling the money you do have and limiting your ability to make

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If psychological factors influence your spending, credit reduction programs are like using perfume to

cover body odor: they will treat only the symptoms, not the root cause. Working on the psychological

aspects while taking steps to reduce debt will greatly increase your chances of long-term success.

Conclusion and Implications:

The purpose of the current research was to enhance the understanding of consumer credit card

ownership and usage practices. We applied quantitative as well as qualitative data collection and

analysis techniques to capture the dimensions investigated in this study.

It is expected that the findings of this research will lead to more development of this area as a field of

investigation as the methodology is based on western research but the findings are purely according to

Pakistani market. Furthermore, this study can also help banks to apply strategic decisions in

developing and applying marketing strategies. This will also help consumers make informed choices on

competitive credit card offerings.

It was found that customers have three broad motives for using credit cards which are:

1. Payment in lieu of cash for routine transactions for the sake of convenience.

2. To maintain their social status.

3. As a mode of short term financing.

Whatever may be the reason, use of credit cards encourages consumers to spend more than their

current income by providing an easy option of money availability.

Limitations and Future Research:

We believe that this study and its results are worthy of note as it has been conducted under controlled

conditions, we also believe that, even beyond the usual cautions, it is important to take account of

limitations of this study and of reasons why the results should be treated with caution.

The first is that the experimental manipulation operated by inducing people who would not have

naturally paid for lunch with a credit card to do so. Someone who is induced, by the prospect of a gift

pack to pay with credit, when they otherwise would have paid with cash, might feel manipulated and

determined not to spend more than they would have with cash. Thus, it is difficult to generalize these

results to people who choose on their own to pay with credit card. This effect works against showing a

spending-enhancing effect of credit cards, even if such an effect exists.

The study is confined to a convenience sample of 50 individuals living in Karachi metropolitan area,

people living in other cities of Pakistan were not a part of this research. Individuals having one credit

card were taken into account. However, the influence of possessing multiple credit cards by anindividual has not been explored. This study had not explored credit history and credit card debt to

identify factors influencing the amount of, and changes in, consumer debt held by households.

The findings suggest that credit cards could result in a higher level of purchasing expenditure and

purchasing item volume, however, it is not clear whether high spenders incline towards credit card

usage. Therefore, cause and effect relationship between credit cards and spending has yet to be

adequately explored.

Overall, issues involved with possession, utilization, the repayment of credit card debt and lifestyle

outcomes are numerous, and a single study cannot be expected to address them all. Research is

needed to complement the findings.

This study shows that it is possible to conduct a randomized field experiment to examine the impact of

credit card use on spending. We hope that it is only the first of many studies that finally bring us to a

definitive answer to this important question.


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Effect of Credit Card