Why are My Credit Card APRs so High?

Talia Lee-
June 13, 2024

The annual percentage rate (APR) on a credit card represents the total cost of credit to the cardholder. It includes the periodic interest rate applied by the issuer to the outstanding balance, determining the finance charge for each billing period. Most credit card issuers use a variable interest rate tied to the prime rate, which reflects the rate banks charge their creditworthy corporate clients and is influenced by the Federal Reserve’s key policy tool, the federal funds rate.

Issuers add a margin to the prime rate to establish interest rates for credit card users. The prime rate has risen due to shifts in the Fed’s interest rate policy, with 11 increases since March 2022. However, the Fed paused these hikes in July 2023 and maintained this stance at its June 2024 meeting, holding its target interest rate steady at 5.25% to 5.5%.

Despite this pause, the central bank continues its efforts to combat inflation, keeping interest rates elevated for the foreseeable future. As a result, credit card interest rates remain at these heightened levels.

Since March 2022, the Federal Reserve has implemented several adjustments to its target interest rate. The initial increase of 0.25 percent in March 2022 marked the first rate hike in nearly four years. Following this, the Fed raised rates by 0.50 percent at its May 2022 meeting. Throughout June, July, September, and November 2022, the Fed continued to raise its target rate by 75 basis points at each meeting, aiming to combat inflation and phase out pandemic-related stimulus measures. In December 2022, the Fed moderated its rate hike to 0.50 percent.

From February to July 2023, the Fed maintained a more moderate approach with increases of 25 basis points at each meeting. During its meetings in June, September, November, and December 2023, as well as in January, March, May, and June 2024, the Fed opted to keep rates unchanged, observing the economic repercussions of its previous actions.

The target federal funds rate represents the rate at which the Fed aims for banks to lend money to each other on a short-term basis. Rather than directly setting this rate, the Fed establishes it as a target.

In periods when the central bank seeks to stimulate economic growth, it endeavors to keep borrowing costs low. This strategy of lowering interest rates began in 2019 amidst concerns of a global economic slowdown. This approach continued during the onset of the pandemic in 2020, when the Fed lowered its target rate to a range of 0 percent to 0.25 percent.

In addition to adjusting interest rates, the Fed employs other tools such as purchasing securities to inject more money into the economy and further reduce interest rates. This strategy, known as “quantitative easing” or bond buying, was utilized during the recession that followed the 2007 housing market collapse, when the Fed lowered its target rate to the same 0 percent to 0.25 percent range. The process of gradually increasing rates began in December 2015.

In more recent times, the Fed has taken steps to tighten credit conditions and combat inflation by raising its target interest rates. Additionally, it has initiated “quantitative tightening” by selling off securities from its balance sheet to reduce the money supply and slow economic growth.

Currently, with the federal funds rate ranging from 5.25 percent to 5.50 percent, you might be curious why your credit card issuer charges significantly higher interest rates. As of late April 2024, the average credit card interest rate surpassed 20.7 percent, a substantial markup from the U.S. prime rate of 5.5 percent in January.

The primary reason for this wide gap in credit card interest rates stems from several factors. Firstly, credit card debt is unsecured, unlike mortgage loans that are secured by your home or auto loans secured by your car. If you default on a mortgage or auto loan, the lender can seize the collateral. In contrast, credit card debt lacks such collateral, increasing the risk for lenders.

Moreover, delinquency rates on credit card loans tend to be higher compared to other consumer loans. Federal Reserve data from the fourth quarter of 2023 showed a delinquency rate of 3.10 percent for credit card loans, higher than the overall consumer loan delinquency rate of 2.62 percent.

Additionally, the Credit Card Accountability Responsibility and Disclosure Act of 2009 (CARD Act) introduced enhanced consumer protections. These regulations require issuers to provide advance notice of any upcoming interest rate increases or significant changes not linked to Federal Reserve actions. These protections, while beneficial for consumers, also contribute to increased risk for issuers, influencing their interest rate policies accordingly.

As a consumer, you may not have control over the macroeconomic factors influencing Federal Reserve interest rates, but there are strategies you can employ to secure a better interest rate on your credit card debt:

  • Maintain Good Credit Management: Responsible credit management leads to a higher credit score, reducing your default risk and potentially qualifying you for better interest rates.
  • Early and Frequent Payments: Given that most credit cards compound interest daily, making payments ahead of schedule can significantly reduce your overall interest payments.
  • Negotiate with Your Issuer: If you’ve been a long-term cardholder, leverage your loyalty to negotiate a lower interest rate with your issuer, who values retaining your business.
  • Consider Balance Transfers: Transfer high-interest balances to a top balance transfer card or utilize an introductory 0 percent APR credit card for large purchases. Ensure you pay off the balance before the introductory period ends to avoid reverting to higher interest rates. Note that new purchases might not benefit from an interest-free period if you’re carrying a transferred balance.
  • Explore Loan Options: Consolidate high-interest credit card debt with a lower-interest home equity loan or personal loan, which are typically secured and offer more favorable rates compared to credit cards.

Credit card interest rates are steep because they present greater risk to issuers compared to secured loans. With average rates exceeding 20.7 percent, it’s crucial for consumers to tactically handle their debt. Research thoroughly to secure a rate at the lower end of a card’s APR spectrum. Your specific rate hinges largely on your credit score, yet discussing directly with customer service could open doors to negotiate your rate. This is an opportune moment to strive for the most favorable interest rate you can achieve.

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