November 1991 | Volume 42, Issue 7
How we became a nation of instant, constant borrowers
In 1987 Robert Townsend charged $100,000 on his fifteen personal credit cards to finance the production of a major motion picture, Hollywood Shuffle. It was a big risk, a desperate gamble that the movie would be successful and pay off the bills. It worked. Most Americans go through life making credit-card gambles these days, though on a much smaller scale, charging their clothes, furnishings, vacations, toys, and more in the hope that they’ll have the time and ultimately the money to pay it off. It’s hard to imagine that a few years ago you couldn’t charge tickets to a theater, let alone the making of a movie. Now you can charge virtually anything—and some things you must charge: pity the soul who tries to rent a car with mere cash.
Our love affair with—and subsequent marriage to—the credit card was launched in 1950 by an embarrassed businessman named Frank X. McNamara. According to the story he told so many times it became a legend, one day he finished a meal in a fine New York restaurant and discovered he had no cash to pay for it. Credit cards for restaurant meals were as yet unheard of, so he called his wife and had her rush over with money to bail him out. His predicament gave him the idea that would revolutionize the American way of spending. He invented Diners Club.
McNamara, thirty-five, was well prepared for the job; he was a credit specialist for a credit company in Manhattan. He founded Diners Club in the spring of 1950—not long after that lunch—on just $10,000 put up by his partner and attorney, Ralph Schneider. Within a year about two hundred people had been persuaded to carry the world’s first multiuse charge card. For an annual fee of three dollars they had the means to charge meals at any of twenty-seven restaurants around the city.
By the end of 1951 more than a million dollars had been charged on the growing number of pressed-paper Diners Club cards, and the company was turning a profit and starting to pay off its $58,000 debt. But nobody yet foresaw the makings of a multibillion-dollar international in dustry—least of all McNamara. He sold out to Schneider in 1953, for $200,000. He realized that many Americans were suspicious of the basic idea of credit, and he thought they would remain so. As Lawrence Lockey, dean of the School of Commerce at the University of Southern California, wrote in 1954, “Deep in our cultural heritage is the feeling that a man should not live beyond his means. From Ben Franklin’s Poor Richard to Mark Twain’s Pudd’nhead Wilson, we have been told that the thrifty man pays his own way.” Thirty-seven years later credit itself almost seems to be a part of our heritage.
Gasoline and store charge cards were already common by the 1950s, but cash was the standard for every kind of personal purchase those didn’t cover. Schneider discovered that people wouldn’t believe it when they were told that “just by applying, they would get the credit card and we would take the risk [that they wouldn’t pay]. They thought there had to be a catch.”
There was indeed a catch, but it snared the merchant, not the consumer. Devising the system that card issuers use to this day, Diners Club (which is now a subsidiary of Citicorp) underwrote the cards mainly by charging retailers a “discount” of up to 10 percent on each sale; it repaid the merchant that much less than the amount of the sale. Despite the dent in profits that this could mean, retailers signed up throughout the early 1950s, enticed by Diners Club’s persuasive argument that people with cards spend more than those without.
The problem was to persuade enough people to carry the cards. Diners Club turned to promotions such as giving away a round-the-world trip on a popular television show, “The Big Program.” The winners of that prize, Mr. and Mrs. Harold Bortzfield, charged all their expenses on a Diners Club card and made it “from New York to New York without a dime in their pockets.” The shortage of cardholders didn’t last long. Before Diners Club was even a decade old, attitudes toward spending were clearly changing, at least among businesspeople. By 1958 Time magazine could observe that “in the nation’s expense-account economy, nobody is anybody unless he can say, ‘Charge it.’” That same year, newspapers revealed that a Hollywood divorce settlement had spelled out who was to retain custody of the couple’s Diners Club card.
But would the rise of the credit card be a boon or a curse to the citizenry? One writer in 1961 worried about “the effect an excess of on-the-cuff living has on our sense of proportion and values. It is not that we want too many comforts, but we must have all of them now, this minute.” The Nation, on the other hand, welcomed “the democratization of conspicuous consumption” and a world in which “almost anybody can judiciously sample the good life—the realy good life.” The plastic passport to luxury was clearly here to stay.
As early as the eighteenth century, wealthy Americans had habitually run up huge debts with retailers and considered it an impertinence to be asked to pay. Stores had found that a businesslike monthly bill could induce most such people to settle up on a timely basis. The first large American store to introduce formal charge accounts was Cowperthwaite & Sons, of New York City, in 1807. In 1905 Spiegel began offering credit terms on everything in its catalogue. The next year Sears began to sell washing machines for installments of eleven cents a week. Most such early credit plans simply added the interest to be charged to the purchase price and divided by the number of payments. The result was a fixed monthly bill that tended to last about as long as the item purchased.
Western Union came up with what may have been the first actual card for charging, about 1914. Around the same time, a few hotels began giving their regular business travelers charge plates—dog-tag-like affairs sometimes known as metal money—and in 1924 General Petroleum, of California, introduced the gasoline credit card.
But the term credit card actually preceded all these pioneer events. It was coined by the visionary Edward Bellamy, in his popular Utopian novel Looking Backward: 2000 to 1887 , published in 1888. In Looking Backward a young man falls unconscious and wakes up at the millennium to an ideal world where cash has been replaced by “a credit corresponding to his share of the annual product of the nation … and a credit card is issued him with which he procures at the public storehouses … whatever he desires, whenever he desires it.”
The first credit card that offered modern revolving-credit terms was developed in the late 1930s by Wanamaker’s, the Philadelphia department store. Customers holding the Wanamaker’s charge-a-plate were given the choice of paying their balances partly or in full at the end of each month. The more they paid off, the more they could subsequently charge. The idea was to help consumers reestablish purchasing power lost in the Depression—and buy a little more than they could with cash.
Wartime lending restrictions kept charge cards from proliferating in the early 1940s, but soon after the war the Universal Air Travel Plan emerged, a cooperative venture joined by nearly every existing airline. For a deposit of $425, a company could issue an unlimited number of UATP cards to its employees. They could then charge flights, and the company would receive a single monthly bill for all of them.
By 1955 the convenience of charging was beginning to catch on in a big way. Diners Club was followed by Trip Charge, Golden Key, Gourmet Guest Club, Esquire Club, and Carte Blanche, all catering to executives. The wealthiest and ultimately most successful competitor was American Express, which introduced its card in 1958 with a mailing to more than eight million customers of various banks. American Express came to dominate the field partly because it could cover the credit it was extending with the float from its traveler’s checks, which are, after all, a form of interestfree loan from consumers to American Express.
As the cards blossomed, so did advertising encouraging consumers to charge up a luxurious life. Carte Blanche promised a nineteen-year-old seventy-three-dollar-a-week clerk named Joseph Miraglia that it would “open up a new and magical world” if he simply filled out an application. He did so and upon receiving his card embarked on a $10,000 spending binge.
Using the card both to charge purchases and to guarantee personal checks, Miraglia visited Las Vegas, Montreal, Florida, and Cuba, staying only in the best hotels. “For a month … I was somebody,” he said after he was finally arrested for passing bad checks. “But next time I’ll pay cash.” He blamed Carte Blanche’s sponsor, Hilton Hotels, for offering him credit in the first place: “I would like to speak to Mr. Hilton about his credit policies. If that man doesn’t watch his credit department, he’ll go bankrupt.”
Hilton, of course, had had no intention of extending credit to Miraglia or anyone else of his marginal economic status. Carte Blanche, Diners Club, American Express, and the rest of the travel-and-entertainment—or T&E—cards were meant for businesspeople on expense accounts. But banks sensed among the less affluent a pent-up desire to spend, and they began cautiously to explore issuing credit cards of their own.
Banks have the advantage of being able to give loans and charge interest. Thus they can issue credit cards that allow installment payments, and thereby profit not merely from an annual fee and the discount charged to retailers, as with the T&E cards, but also from the interest they earn.
Nonetheless, at first, all the bank cards in the 1950s were free to consumers, extended no credit, and charged no interest. They made money solely from the merchant discount. As a result they weren’t very profitable, and many of, the banks gave up on them. Only 27 of the 200 bank-card operations existing in 1967 had been around since the 1950s.
One of those 27 was BankAmericard. The Bank of America, in San Francisco, took its cue from department-store charge accounts and early on started offering a choice of payment plans. Consumers could pay up in full each month or pay in small monthly installments, plus interest. BankAmericard also pioneered the cash advance. The service charge was high—4 percent per transaction—but the idea of instant cash made the service immediately popular. (Most states later outlawed such high service charges as usurious.)
BankAmericard was soon accepted across California and became the first bank credit card to turn a profit. Bankers from all over the country descended on the Bank of America’s headquarters to learn the secret of its success—so many of them that in 1966 BankAmericard, which would eventually become Visa, began to form alliances with banks outside the state.
Bank One, a tiny hundred-million-dollar bank in Columbus, Ohio, was among the first to join up. First National City Bank of New York (now Citibank) had threatened to extend its new Everything Card nationwide, and Bank One feared being squeezed out of the credit-card business by the giant. According to John Fisher, a retired senior vice president, Bank One appealed for help to the Bank of America just as the Bank of America was deciding that a bank card accepted by retailers across the nation might be possible.
It turned out that the two banks used utterly incompatible computer systems. “In order to process BankAmericard charges, we had to go to the gas company in town,” Fisher remembers. “We ran the programs at night for six months when the gas company wasn’t using the equipment.”
Many banks resisted BankAmericard simply because of its name. They weren’t about to give a billboard, however small, to a fellow bank. Some of them took advantage of franchise plans offered by American Express, Diners Club, and Carte Blanche, which gave them a rebate on charges made by their own customers. A more significant challenge was spearheaded by the Wells Fargo Bank, which joined with seventy-seven others to form the Western States Bank Card Association and set up a card network specifically to compete with BankAmericard. The name they chose was Master Charge. They found the name already in use and bought it from its owner, the First National Bank of Louisville, Kentucky, which had itself bought it from a group of local merchants.
At the same time, Marine Midland Bank, in New York, was starting yet another credit-card network, named Interbank, to enable its customers to charge purchases throughout the country. Interbank merged with Master Charge to fight BankAmericard in 1968, and soon after, First National City Bank converted its 1.3 million Everything Card holders to Master Charge. Master Charge was now the biggest bank card in the country.
Not every bank joined the stampede to Master Charge or BankAmericard, at least at first. Five Chicago banks decided to go it alone, and they didn’t take long to regret their decision. Studies had shown that 40 percent of any group of people who received cards in the mail would start using them—far more people than would actually request the cards. So, just before Christmas, 1966, five million credit cards were “put on the air” in Chicago.
Five million holiday credit-card shoppers would undoubtedly have created a bonanza for the banks, but in the rush to get in on this new market, the banks had been less than cautious in assembling their lists. Some families received fifteen cards. Dead people and babies got cards. A dachshund named Alice Griffin was sent not one but four cards, one of which arrived with the promise that Alice would be welcomed as a “preferred customer” at many of Chicago’s finest restaurants.
The First National Bank of Chicago’s holiday ads for its card called it “The Nicest Thing Since Money.” At least one segment of the population wholeheartedly agreed. Hundreds of Chicagoans discovered the truth of that slogan: they could simply use or sell any cards that they “found.” To make matters easier for them, the law at the time held that the person whose name was on a card was liable for all the charges made on it—even if he or she had never requested or received the card.
Other credit-card issuers, including the Bank of America, had done similar mass mailings of cards and were to do so for several years more. Kenneth Larkin, the vice president in charge of BankAmericard’s national roll-out, argued, probably correctly, that it was the only way to initially assure merchants that there would be enough cardholders to make accepting the cards worthwhile. But the disaster in Chicago sparked a movement to regulate the industry.
Public Law 91-508, signed by President Nixon in October 1970, prohibited credit-card issuers from sending cards to people who hadn’t requested them. By then the banks had already penetrated most markets fully enough to be grateful for the chance to end a competitive practice that had cost them millions in bad debts and fraud. The law also all but eliminated cardholder liability for charges on a card reported lost or stolen. But woe to the consumer whose bill was in error or who wanted to withhold payment on unsatisfactory merchandise. No matter how just the customers’ complaints, the issuing banks could—and often did —slap a bad credit rating on them if they failed to pay the full bill during the dispute. That practice was outlawed in 1974, by the Fair Credit Billing Act, which set standard procedures for resolving billing disputes.
Women, meanwhile, had become increasingly vocal about their particular difficulties with credit cards. In April 1974 Cynthia Holmes applied for a bank credit card both in her full name and as C. E. Holmes. Without explanation the bank rejected Cynthia and sent C.E. a card and a “Dear Preferred Customer” letter. Married women often couldn’t obtain credit in their own names even if they had good jobs or were the sole support of a household.
The Equal Credit Opportunity Act, passed in 1975, imposes penalties of up to $10,000, plus damages, on credit issuers found guilty of sex discrimination. Amendments to it have broadened the law to prevent credit discrimination on the basis of race, color, religion, national origin, age, or even reliance on public assistance. Credit-card rejection must now be accompanied by a specific explanation, and the applicant can appeal.
Denial of credit is a truly serious problem in an age when credit has become more widely accepted than any other form of payment. By the early 1970s credit cards had evolved into a form of identification, a proof of credit-worthiness, and a travel necessity of undreamed-of power. It was a sign of the times when in 1973 a physician arrived at a Boston hotel intending to write a personal check for his bill and was told there were no rooms available—until he pulled out a credit card. Then he got a room immediately.
Aggressive marketing of both bank and T&E cards helped ensure the proliferation of outlets for credit-card spending. The new uses that sprang up for credit cards in the late sixties and early seventies included church collections in Vermont, bail bonds in Arizona, and gynecologist’s bills in Denver. For a time taxpayers in ten states could even charge federal income tax payments of up to $500 on Master Charge or BankAmericard. But the cards still weren’t a consistent moneymaker for the banks. The problem was, too many people paid up in full every month, especially people with higher incomes, who tended to think of the cards as merely a convenience. Bankers came to realize that the ideal credit-card customer was, as Fortune put it, “the gainfully employed on the lower end of the income scale, to whom a $500 line is a great boon.”
In January 1973 the Marquette Bank, in Minneapolis, became the first bank to pad its revenues with an annual fee. Before long the yearly fee was ubiquitous. In a bold move in 1976 Citibank began charging a monthly fee to cardholders who settled in full. “We want to make the freeloaders pay,” declared an unnamed Citibank executive. But the policy created such a storm of negative publicity that the bank dropped it two years later.
Citibank also pioneered the massive out-of-state directmail campaign, in 1977, reaching an estimated twenty-seven million homes in its opening salvo. The mailing was timed to occur just as BankAmericard, in an effort to broaden its appeal, especially overseas, became Visa. Citibank’s letter pointed out that “Visa is replacing BankAmericard.” BankAmericard’s banks complained that this was an attempt to mislead BankAmericard customers into thinking their cards would soon be useless. Whatever the reason, the mailing was a success, and it began the seemingly endless stream of bank-card solicitations we find in our mailboxes today. Nowadays over a billion credit-card offers are sent out each year—to people who already possess an average of 2.9 Visas or MasterCards. (Master Charge became MasterCard in 1979, to dispel what its president, Russell Hogg, called “the tinge of the blue collar.”)
When the prime rate hit 20 percent in the early 1980s, the banks found that consumers didn’t mind paying rates of 18 to 22 percent on their credit-card balances. The high market interest rates came down before long, but credit-card rates stayed high. The banks discovered, as they had with annual fees, that people didn’t terribly mind paying more for their credit cards. As Saul Haskell of Institutional Investor writes, “The miracle for which all card issuers should be grateful is that consumers didn’t storm bank offices and demand that rates be lowered along with the cost of funds.” What the stubbornly high interest rates have accomplished is to attract many new players into the credit-card arena, forcing those already there to counter with increasingly imaginative marketing strategies. Sears introduced its Discover card, the first major competitor to MasterCard and Visa in years, in 1986, with no annual charge and a guaranteed annual rebate to consumers of up to 1 percent of their purchases. Some of the other incentives Discover offered its early takers seemed odd—discounts on meals at Denny’s restaurants and half off a psychiatric exam—but fifteen million people signed up in little more than a year, despite a higher-than-average interest rate of 19.8 percent.
American Express added a new twist, the premium card, when it launched the Gold card in 1966, but the idea didn’t really catch on until the eighties. Gold cards from Visa and MasterCard (and, since 1990, Discover) usually offer lower interest rates and higher credit limits than the ordinary bank card, but the real attraction is, of course, something else entirely. As a top executive of a New York brokerage firm admitted in 1982, “If you want to know the honest truth, I have a Gold card because of the status… I use it because it looks neat.”
As Gold cards proliferated widely in the eighties, their glamour inevitably started to fade. This particularly concerned American Express, which had long based its marketing appeals—and justified its higher annual fees—on prestige. To keep ahead in cachet, the company came up withthe Platinum card, exclusively for “cardmembers” who charge more than $10,000 a year. By 1985 more than fifty thousand Americans had Platinum cards, and they were paying $250 a year for the privilege. In 1989 the fee went up to $300.
That stiff tariff wins Platinum’s holders a host of personal services. American Express representatives search the world for hard-to-find gifts, pick up belongings left behind by travelers, and arrange members-only entertainment offers like Tony Awards parties with the stars. If a Platinum cardholder falls ill while traveling, he or she can request free assistance—and even, if necessary, free medical evacuation home to America.
The proliferation of Gold and Platinum cards in the 1980s generated rumors of an ultimate, highly exclusive, never publicized Black card. Carried by the likes of Adnan Khashoggi and Imelda Marcos, it allows you to demand private shopping sprees at some of the world’s most exclusive stores or to summon a helicopter to pick you up in the middle of the Sahara. Michael Lewis, the author of Liar’s Poker, spread the story when writing for The New Republic in 1989. American Express vehemently denies the existence of the Black card. Platinum, they insist, is as potent a card as they offer.
The persistence of the Black-card myth suggests the social importance credit cards have taken on for so many of us. As one business writer puts it, “To have one’s credit cards cancelled is now something akin to what being ex- communicated by the Medieval church meant.” Another form of credit-card mortification has added a phrase to the language: being maxed out. And having your credit card refused—rightly or erroneously—has become a major social embarrassment instantly familiar to almost anyone. A typical story is that of an urbane New Yorker several years ago who accidentally picked up a friend’s American Express card and didn’t realize it until weeks later, when he innocently presented it at Brooks Brothers long after it had been reported stolen. He was nearly led away in handcuffs. Having your own card swiped can be even more troublesome—or could until regulatory protections were established. A Florida woman named Lottye Carlin spent eight years fighting the Southeast Banking Corporation over $2,064.35 billed to her for charges she hadn’t made on a MasterCard she hadn’t asked for. She was turned down for a mortgage on a condominium she wanted and spent $8,000 in legal fees but ended up winning $150,000 and a written apology from the bank.
Nowadays there is almost nothing you can’t use a credit card for. “Escort services,” among other illegal businesses, accept them. Doctors and dentists love them. One of the most successful advertising campaigns in American history involved MasterCard and dentists. MasterCard put an ad in the Journal of the American Dental Association showing a man and a woman sitting at a desk going over their bills and looking distressed, the man holding up one bill and saying, “It’s the dentist; he can wait.” The ad had a coupon for further information, and it generated one of the best responses of any coupon ever.
Of course, credit cards have not only replaced cash for most purposes but also in effect created cash by making it instantly available virtually anywhere. The credit-card cash advance is now as ubiquitous as the automated teller machine. The typical American can have hundreds of dollars in hand at almost any time and place he or she wants it. And lately there have been inroads by debit cards—cards that don’t command credit but that rather write off a purchase against money the cardholder has on deposit in a bank.
The revolution seems complete. Americans today charge more than $200 billion a year on their credit cards, and fewer than 20 percent of households don’t have any cards. MasterCard alone issues 90 million cards; Visa has even more—138 million—on which cardholders ring up more than $37 billion a year in charges. The Nilson Report, a creditcard industry newsletter, estimates that the banks that issue the cards make a profit of 2.5 percent a year, after taxes, on all the charges.
In the 1980s, as the markets for bank credit cards approached saturation, many issuers began searching for ways to stand out. One was to offer cards bearing the names of specific “affinity groups,” such as alumni clubs, charities, and trade unions. The holder of an affinity card gets to display the logo of the organization represented and knows that the organization will get some slice of the profit each time the card is used. Some of these programs have been extremely popular; many have not. The Bank of New York signed up 1.5 million AFL-CIO members for affinity cards in eighteen months; Chase Manhattan’s Muscular Dystrophy Association card, with a color photograph of Jerry Lewis, was a flop. And this year the MBNA America Bank, of Delaware, began offering cards bearing the holder’s surname—for instance, an “Allen Visa” for people whose last name is Allen. The mailing urged Allens to “Share the Allen Heritage,” suggesting, “If you’re proud of being an Allen, you may now carry a credit card which will display your pride every time you open your wallet.” The card “tastefully showcases the Allen name and earliest coat-of-arms.”
The newest trend in the credit-card business, begun by Sears with the Discover card, is the aggressive entry of nonfinancial companies into the bank-card arena (they can do so only in conjunction with a bank). Several airlines, including United and American, have offered Visas and MasterCards that earn bonus miles with every purchase. Ford, General Electric, and Prudential have likewise issued Visas and MasterCards. American Express introduced the Optima card in 1987, with installment payments and interest charges to compete with the bank cards, and it fixed the interest rate at 16.25 percent, a notch lower than most banks.
AT&T joined the fray in March 1990 with its AT&T Universal MasterCard and Visa. The Universal card offered a 10 percent discount on long-distance calls (in the first year of its promotion), but its biggest attraction was that for a while it required no annual fee as long as the card was used at least once a year. AT&T received a quarter of a million inquiries about the card within hours of its introduction, and banks were soon complaining to regulators about unfair competition.
Fair or not, the competition for our credit-card dollars is far from over. A Japanese company has even been quietly test-marketing a credit card of its own in California, adding one more to the twenty-five thousand different cards available in this country. The average American already has a walletful, and with any one of them he or she can command luxuries formerly reserved for the wealthy—and pay the price later. In forty years we have almost all become casual constant borrowers. What Alfred Bloomingdale, then president of Diners Club, predicted in 1960 seems to have come true: an America where “there will be only two classes of people—those with credit cards and those who can’t get them.