How a psychological bias leads many people to pay more credit card interest

1. How a psychological bias leads many people to pay more credit card interest TugrulZengin & Laurence Provost

2. Overview • Background • Anchoring • Stewart, 2009 • Survey • Experiment • Author’s Conclusions • Limitations • Implications • Future Research • Summary & Conclusions

3. Background • One of the main costs of having a credit card are the interest charges. • Minimum-repayment is the minimum amount of money you have to pay on your credit card in order to avoid further fees. • From April 1st 2011 all credit card companies must request a minimum monthly repayment from their customers. • Minimum repayments are usually the total interest incurred that month.

4. A psychological anchor However, the inclusion of minimum repayment information on the bill may act as a psychological anchor.

5. Anchoring “…people make estimates by starting from an initial value that is adjusted to yield an answer.” – Tversky and Kahneman (1974) Tversky, A. & Kahneman, D. (1974). Judgment under Uncertainty: Heuristics an Biases. Science: New Series, 185(4157), 1124-1131.

6. Stewart, 2009 • The study examined the effect of minimum repayment information as a psychological anchor. • In order to investigate this the author conducted a survey and an experiment. • He hypothesised that anchoring decreases monthly credit card repayments.

7. Survey • Participants were asked about their credit card repayment behaviour. • All were United Kingdom credit card holders. • N: 248 • Age range:18-65 • 50:50 sex ratio • Including: • Outstanding balance • Most recent repayment • The size of the minimum repayment required

8. Survey Results Figure 1. Bar chart extrapolated from Stewart, N. (2009). The Cost of Anchoring on Credit-Card Minimum Repayments. Psychological Science, 20(1), 39-41.

9. Survey Results Figure 2. Bar chart extrapolated from Stewart, N. (2009). The Cost of Anchoring on Credit-Card Minimum Repayments. Psychological Science, 20(1), 39-41.

10. Survey Results • For partial repayments: • Positive correlation between minimum repayment and actual repayment. • Correlation remained significant when: • The size of balance was accounted for • The people who only made the minimum repayments were removed from the analysis • Those with balances under £500 were removed from the analysis

11. Experiment • Participants received a mock credit card bill, of £435.76, and were asked to state how much: • they could afford to repay • they would repay • Minimum repayment information, of £5.42, was either included or omitted. • Participants were recruited from various sources. • 97campus visitors • 215 Web page visitors • 101 recruited by a market research company

12. Experiment Results • Inclusion of minimum repayment information: • Reduces payment of all sizes • Exclusion of minimum repayment information: • Payment increase 70% Figure 3. Taken from: Stewart, N. (2009). The Cost of Anchoring on Credit-Card Minimum Repayments. Psychological Science, 20(1), 39-41.

13. Conclusions, Stewart 2009 • Inclusion of minimum repayment information acts as a psychological anchor. • This may be costly to the consumer • Warnings about anchoring are ineffective. • Alternative repayment scenarios should be provided.

14. Limitations of the study • Overly simplified design of experiment. • Focus on United Kingdom and United States. There are cultural differences in repayment strategies (Quilgars, Jones, and Abbott, 2008). • No information about the Socio-economic status of the participants. This factor has been shown to influence repayment strategies (Norvilitis, Merwin, Osberg, Roehling, Young, & Kamas, 2006). Quilgars, D., Jones, A,. & Abbott, D. (2008). Does Difference Make a Difference in Financial Planning for Risk? Social Policy & Administration,42(6), 576-592. Norvilitis, J.M., Merwin , M.M., Osberg, T.M., Roehling, P.V., Young, P., & Kamas, M.M. (2006). Personality Factors, Money Attitudes, Financial Knowledge, and Credit-Card Debt in College Students. Journal of Applied Social Psychology, 36(6), 1395-1413.

15. Referencing • “About three quarters of credit-card accounts attract interest charges. In the United States, credit-card debt is $951.7 billion of a total of $2,539.7 billion of consumer credit. In the United Kingdom, credit-card debt is $ 55.1 billion of $174.4 billion of consumer credit”- (Stewart, 2009). • “Warnings about the dangers of making only minimum repayments…are likely to lead to disengagement rather than behavioradjustment (cf. Loewenstein & O’Donoghue,2006)”- (Stewart, 2009). • Incorrect referencing may reduce perceived validity of the statements. Loewenstein, G. & O'Donoghue, T. (2006). "We Can Do This the Easy Way or the Hard Way": Negative Emotions, Self-Regulation, and the Law. The University of Chicago Law Review, 73(1), 183.

16. Implications and Impact • Shows a strong relationship between minimum repayment information and monthly repayment strategies. • Reinforces the power of anchoring in the financial sector. • May provide useful information for legislation of credit cards. • Leads to the question “In who’s interest is the minimum repayment legislation?”

17. Future Research • Following from authors suggestion that providing a table of alternative repayment should diminish anchoring: • Provide participants with three types of bills • Including minimum repayment information • Excluding minimum repayment information • Including a table of detailed alternative repayment options • This would show that including a single alternative payment is the main factor in psychological anchoring.

18. Future Research • The effects of anchoring in repayment strategies in different socio-cultural groups could be investigated. • Quilgars, Jones, and Abbott (2008) suggest that differences in culture, ethnicity, sexual orientation and religion should be greater understood in the area of finance. Quilgars, D., Jones, A,. & Abbott, D. (2008). Does Difference Make a Difference in Financial Planning for Risk? Social Policy & Administration,42(6), 576-592.

19. Future Research • Using the methods suggested above, with a student population could prove difficult yet rewarding. • Finding constant anchoring effects across a student population, would strengthen the findings of Stewart (2009). • This is because universities have varieties of students with different: • Ethnicities, • Cultural backgrounds, • Sex orientation • However, students may have different attitudes and behaviours towards debt management (Chudry, Foxall & Pallister, 2011). • Thus, findings should be verified by comparing results with a non-student sample. Chudry, F., Foxall, G., & Pallister, J. (2011). Exploring Attitudes and Predicting Intentions: Profiling Student Debtors Using an Extended Theory of Planned Behavior. Journal of Applied Social Pyschology, 41(1), 119-149.

20. Conclusion • Anchoring is a noticeable issue when repaying credit card bills. • Stewart (2009) clearly shows this with a clever study. • This is not a purely hypothetical issue, as it has an impact on individuals debt management techniques. • Debt management is a highly salient issue at the moment.

21. Financial Knowledge • In May, credit card interest rates hit a 13 year high (Insley, 2011). • Norvilitis et al. (2006), suggest that lack of financial knowledge (amongst other factors) are related to debt. • Thus better information about anchoring should reduce its effects. Insley, J. (2011, May 5). Credit card interest rates hit 13-year high, analysis shows. The Guardian, Retrieved November 7, 2011, from http://www.guardian.co.uk/money/2011/may/05/credit-card- interest-rates-13-year-high. Norvilitis, J.M., Merwin , M.M., Osberg, T.M., Roehling, P.V., Young, P., & Kamas, M.M. (2006). Personality Factors, Money Attitudes, Financial Knowledge, and Credit-Card Debt in College Students. Journal of Applied Social Psychology, 36(6), 1395-1413.

22. Minimum Repayment Strategy Figure 4. Graph showing example repayment strategies. Calculation made using: http://www.stewart.psych.warwick.ac.uk/decisiontool/

23. Minimum Repayment Strategy Figure 5. Graph showing example repayment strategies. Calculation made using: http://www.stewart.psych.warwick.ac.uk/decisiontool/

24. Summary • Background • Anchoring • Stewart, 2009 • Survey • Experiment • Author’s Conclusions • Limitations • Implications • Future Research • Summary & Conclusions

25. References • Chudry, F., Foxall, G., & Pallister, J. (2011). Exploring Attitudes and Predicting Intentions: Profiling Student Debtors Using an Extended Theory of Planned Behavior. Journal of Applied Social Pyschology, 41(1), 119-149. • Insley, J. (2011, May 5). Credit card interest rates hit 13-year high, analysis shows. The Guardian, Retrieved November 7, 2011, from http://www.guardian.co.uk/money/2011/may/05/credit -card-interest rates-13- year-high. • Loewenstein, G. & O'Donoghue, T. (2006). "We Can Do This the Easy Way or the Hard Way": Negative Emotions, Self-Regulation, and the Law. The University of Chicago Law Review, 73(1), 183. • Quilgars, D., Jones, A,. & Abbott, D. (2008). Does Difference Make a Difference in Financial Planning for Risk? Social Policy & Administration,42(6), 576-592. • Norvilitis, J.M., Merwin , M.M., Osberg, T.M., Roehling, P.V., Young, P., & Kamas, M.M. (2006). Personality Factors, Money Attitudes, Financial Knowledge, and Credit- Card Debt in College Students. Journal of Applied Social Psychology, 36(6), 1395- 1413. • Stewart, N. (2009). The Cost of Anchoring on Credit-Card Minimum Repayments. Psychological Science, 20(1), 39-41. • Tversky, A. & Kahneman, D. (1974). Judgment under Uncertainty: Heuristics an Biases. Science: NewSeries, 185(4157), 1124-1131.

26. Thank you for your attention