Duke, Developments in the Landscape for Consumer Credit and Payments – Part 2

Changes in the Use of Payment Instruments

Consumer credit pricing and availability also appear to affect consumer preferences for different payment methods. When consumers decide how to pay for their purchases, they may have a variety of payment options to choose from, including cash, checks, debit cards, credit cards, prepaid cards, and even, increasingly, their mobile phones. The Federal Reserve has tracked changes in consumers’ use of payment instruments in a number of studies over the past decade. These studies cast an interesting light on the effects that weakened economic conditions have had on the mix of payments.

The number of checks processed in the United States has been declining since the late 1990s, as consumers, businesses, and governments have shifted away from checks and toward electronic payment methods. The annual number of checks dropped from more than 40 billion in 2000 to 30 billion in 2006, and we expect the data for 2009 to show continued declines.

At the same time, the use of debit and credit cards has risen. Debit card payments, in particular, have grown remarkably: Between 2000 and 2008, the number of debit card transactions grew at an annual rate of more than 17 percent, while the value of debit card transactions grew 15 percent per year. Credit card transactions have grown at a slower pace than debit card transactions over the same period–about 2 percent per year in number and roughly 5 percent per year in value. For smaller-value payments, both types of cards, but especially debit cards, have served as substitutes for checks and, very likely, cash. Although the nature of cash makes direct measurement of aggregate cash payments difficult, we can infer a trend in usage from changes in the level of small-denomination currency that is most frequently used in cash payments. The amount of small-denomination domestic currency in circulation has been steadily declining since the 1970s, leading us to believe that cash payments have similarly declined.

Most interestingly, the recent period of economic weakness appears to have caused some consumers to shift away from credit cards not only as a source of credit but also as a method of payment. As I said earlier, between late 2008 and early 2010, the value of credit card purchases declined 10 percent. In comparison, although the rate of growth in debit card use slowed during the recession, debit card transactions did not decline in either volume or value.

This shift from credit to debit makes sense from the perspective of the consumer. If credit is tight and consumption is contracting, consumers who are reluctant or unable to increase their debt levels can use debit cards to pay for current expenses out of current, rather than future, income. In addition, for individuals with existing credit card balances, interest must be paid on new purchases as well as on previous balances. Those individuals might seek to avoid interest charges on new purchases by using debit cards. This incentive is even stronger in the presence of higher credit card interest rates. Finally, some consumers might use debit cards to track their spending in real time when budgets are tight.

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