Recent UK Study Suggests that “Nudge” Disclosures Don’t Work

A recent academic study published in the United Kingdom, entitled “Minimum Required Payment and Supplemental Information Disclosure Effects on Consumer Debt Repayment Decisions,” concluded that requiring a minimum monthly payment on credit card accounts discourages many consumers who otherwise would make a larger payment.  Moreover, the researchers concluded that disclosures of supplemental information on statements, such as the amount of time it would take to pay off the loan if only the minimum is paid, and the total interest cost incurred by paying only the minimum, did not significantly mitigate the negative effects of requiring a minimum payment and, in some cases, significantly increased the likelihood that a consumer would pay only the required minimum.

These conclusions suggest that certain repayment disclosures required by the Credit CARD Act of 2009 may not be effective.  Specifically, Section 201 of the Credit Card Act of 2009 amended Section 127(b)(11) of the Truth in Lending Act to provide that credit card issuers must provide the following disclosures on each periodic statement: (1) a “warning” statement indicating that making only the minimum payment will increase the interest the consumer pays and the time it takes to repay the consumer’s balance; (2) the number of months that it would take to repay the outstanding balance if the consumer pays only the required minimum monthly payments and if no further advances are made; (3) the total cost to the consumer, including interest and principal payments, of paying that balance in full, if the consumer pays only the required minimum monthly payments and if no further advances are made; (4) the monthly payment amount that would be required for the consumer to pay off the outstanding balance in 36 months, if no further advances are made, and the total cost to the consumer, including interest and principal payments, of paying that balance in full if the consumer pays the balance over 36 months; and (5) a toll-free telephone number at which the consumer may receive information about credit counseling and debt management services.  Last year, the Board of Governors of the Federal Reserve System (“Board”) implemented these disclosure requirements through §226.7(b)(12) of Regulation Z.

The Board summarized the “goals” of these requirements as “informing consumers that they can pay less interest and pay off the balance sooner if the consumer pays more than the minimum payment each month.”  75 Fed. Reg. 7683 (Feb. 22, 2010).  For example, the Board observed that the requirement in (4) above would permit consumers “more easily to understand the potential savings of paying the balance shown on the periodic statement in 3 years rather than making minimum payments each month . . . The Board believes that including the savings estimate on the periodic statement allows consumers to comprehend better the potential savings without having to compute this amount themselves from the total cost estimates disclosed on the periodic statement.”  Id.

Several studies in the past have shown that required minimum monthly payments cause many consumers to make lower payments than they otherwise would.  Most notably, a study published in Psychological Science in 2009 entitled “The Cost of Anchoring on Credit-Card Minimum Repayments,” based on an experiment using fictitious credit card bills presented to cardholders, showed that not requiring a monthly minimum payment would likely lead to significantly higher payments.  It appears that many consumers interpret the required minimum as an implicit norm and a signal that payment of such amount is “appropriate” for repaying the outstanding balance in a timely manner.

The recent United Kingdom study takes this analysis one step further, both confirming the findings of the 2009 study and finding significant evidence that the repayment disclosures such as those required by §7(b)(12) do not accomplish their goals, and, in some instances, actually discourage larger payments.  The researchers provided a random sample of consumers with one of two hypothetical monthly credit card statements -- one requiring a minimum payment and the other not requiring a minimum payment -- and asked how much they would pay on the account.  Controlling for differences in income level, knowledge of financial information, and other factors, the study concluded that participants tended to pay less when a minimum payment is required.  (In its conclusion, the researchers qualified their conclusion inasmuch “no issuers offer credit cards without minimum payments”; consequently, confirming these conclusions “is an empirical question yet to be answered.”)

The United Kingdom study also addressed the effectiveness of two attempts by issuers (and applicable governmental authorities in the United States and the United Kingdom) to mitigate the negative effects of minimum payment requirements:  repayment disclosures, as required under the CARD Act, and increasing the percentage of the outstanding balance required to be repaid each month.

With respect to repayment disclosures, a random sample of consumers were presented with one of seven different hypothetical monthly credit card statements, each with various levels of repayment disclosures and warnings, including those required by the CARD Act, and asked to make a repayment decision.  Controlling for variables such as income level, as above, the results indicated that repayment disclosures generally did not meaningfully alter consumers’ propensity to make only the minimum payment requirement.  In fact, disclosing future interest cost information significantly increased the likelihood that consumers would pay only the minimum amount required (though this effect was attenuated when information about the time to pay off the balance also is disclosed).  According to the study, “these three types of information (time to pay off the loan, future interest cost, and repayment needed to pay off the balance in three years) are exactly what the recently enacted Credit CARD Act requires lenders to include.  Our research suggests that relying on this information disclosure alone is not likely to offset the negative effects of including minimum payment information in the bills and probably will not increase debtors' monthly repayments to the levels expected."

The CFPB has made much – for instance in its recently issued initial examination manual – of being “data driven.”  Query whether, and where, the CFPB will allow itself to be driven by the data in the recent study, suggesting as they do that disclosures intended to nudge consumers toward higher minimum payments fail to have the intended effect.  One possible CFPB response, perhaps leveraging the 2003 interagency guidance that generally barred negative amortization in credit card accounts, would be to simply mandate specified levels of minimum payments.  In any case, the CFPB’s confrontation with the limits of disclosure in shaping consumer behavior will be a key theme in the new agency’s early development.