Sinking in a sea of bad debt

Regional credit card issuers have big plans to make the credit card a mass market product, but are they doing enough to protect themselves from possible bad debts?

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By  David Ingham Published  June 6, 2001

Rosy on the surface|~||~||~|On the surface, things seem to be going well for the Gulf’s credit card issuers. For starters, the Gulf’s credit card holders have always spent more individually on the plastic than anywhere else in the world. Visa’s end of year report for 2000 also shows huge year on year growth in both overall spending and the number of cards in circulation in the region.

Just look at the figures. In Saudi Arabia, Visa saw expenditure rise 35% year on year to US $11.654 billion, and the number of cards in circulation rise 28% to 1.778 million. In Oman, card expenditure rose 132% to US $704 million and the number of cards rose 90% to 296,000.
If you work out the sums, there are countries in the Gulf where an average of up to $6000 is spent on each card over the year. Compare that with a worldwide average spend of around $2000 per cardholder and things are looking rosy.

But look a little closer and you’ll see the real reason why those figures are so high. As things stand now, only the Gulf’s most wealthy individuals have credit cards.

The result is that only a few million credit cards are currently in circulation across the entire Arab world. The reason things stand that way is a combination of consumer apathy and massive caution on the part of credit card issuers.

In societies that have been largely built on trading, it’s no surprise that Middle Eastern consumer commerce remains predominantly cash-based. “The culture here is very much a cash culture,” says Premal Patel, head of marketing, Visa Middle East. “We want to create a cashless society.”

His approach to that challenge is to “educate, educate, educate,” as British Prime Minister, Tony Blair, might say. “We’re trying to target various key consumer groups, whether it’s the family, the young business traveller or the business traveller in general,” says Patel.

Visa advertises widely and puts its name to key events. Last November’s Visa/Arabian E-Business Awards ceremony, which was one of the highlights of the massive Gitex IT exhibition, is one example of its backing for a high profile event. Nevertheless, Patel says it could take up to 15 years to “saturate” the regional market with its products.
||**||No credit ratings bureaus|~||~||~|
But whilst Visa says it’s eager to tell the market about credit cards, the very banks that issue them may not have been quite so keen to promote their wider use. The problem is that there are still no third party ratings agencies that can attest to an individual’s creditworthiness. Therefore, banks tend to target cards at high value individuals that are considered less likely to default on payment of bills.

“Bad debt is an issue,” concedes Mohamed Belarj, VP and general manager for the Middle East and Africa, Mastercard. “The lack of ratings agencies is limiting growth in credit card usage.”

Belarj describes bad debt as a “manageable” problem right now, but if issuers want to increase their customer base, they are going to have to start marketing to a broader sway of people. That’s when the lack of ratings agencies will become more and more of a problem.

Nevertheless, the last two months have seen a number of pioneers push ahead with credit card products aimed at the broader consumer market. National Bank of Dubai (NBD) just introduced a Visa card that’s available to individuals with monthly salaries as low as AED 4000.

An annual fee of AED 150 is waived for the first year, and interest rates are 1.25% for NBD customers and 1.75% for non-NBD customers. Interest is free for up to 55 days. “With one of the lowest interest rates in the UAE and no standard first year annual fee, NBD’s card holders will now have a credit card packed with an extensive range of value added services,” says Ali Al Kaitoob, business development manager, NBD Retail Banking.

If NBD is making it so easy for the masses to get hold of a card, shouldn’t it have procedures in place to check on the creditworthiness of applicants? No-one is suggesting that someone is less likely to pay off their cards because they earn less than someone else. The issue is one of volume: more cards in circulation means more possibility of defaulters and at the same time there’s no way of checking an individual’s credit records.

NBD’s Ali Al Khaitoob speaks of checking up on an individual’s salary level, but beyond that offers few concrete details on how NBD will run credit checks on applicants.

It’s a fairly similar story with American Express (AMEX.) The company’s Blue Card, introduced in May, is targeted at a mass audience, in this case the aspiring 18-30 year old. It carries an annual fee of AED 175, and an interest rate of 1% for the first six months and 1.95% per month thereafter.

Like NBD, American Express is not specific on how it will assess individuals’ credit risk. Peter Dean, general manager, AMEX Middle East & North Africa, speaks of “models” but does not go into detail. AMEX does make clear, however, that the Blue Card will have a fixed credit limit in line with each client’s financial profile.

It’s believed that moves to create credit ratings agencies have been made, but no official progress has been reported. That’s confirmed by Jonathan Cabedo, Visa’s deputy regional manager. “The [UAE] Central Bank is working with a number of banks, not all of them, with a view to putting a system in place, but how far that’s gone I don’t know,” says Cabedo.

If such a system is put in place, it’s clearly going to be the Central Banks and issuers that have to take the lead. “It has to be driven by the market itself, and the financial institutions and regulatory authorities are key to that,” says Donald Van Stone, executive vice president and general manager, Europe and Middle East/Africa, Mastercard. “We can of course help in that.”

But wait around for the central banks and you may end up waiting forever. “Steps towards a centralised credit bureau have not amounted to much,” says Shehab Gargash, senior manager for investment banking at Emirates Financial Services. “Therefore, banks still continue to manoeuvre in the dark.”
||**||Technology comes to the rescue|~||~||~|
The world of high technology, as is often the case, may come to the rescue. A solution to the problem of credit risk and fraud could be on the way in the form of the chip card, or smart card.

To cut a long story short, the chip card includes features designed to improve security, including the need for a user to input a pin number that has to be verified by the on-board chip. If it doesn’t match, the transaction won’t work. Credit and transaction limits can also be specified on the card by the issuer. “Clearly, the best way of managing risk is with chip cards,” says Arthur D Kranzley, senior VP, global e-business at Mastercard.

It’s when you enter the world of e-commerce that the smart card will really come into its own. Sometime soon, smart card readers will come as options with PCs and mobile phones. All you’ll have to do is put in your card, type your pin and then you can go off and start buying online.

If this all sounds good already, then it gets even better. A smart card chip can be uploaded with just about any type of functions that an issuer chooses, provided the card has enough memory.

Imagine, for example, having your airline frequent flyer miles, a store card and your debit and credit functions on a single piece of plastic. That’s what smart cards allow. Needless to say, it will take time before the smart card becomes universal. Banks have to roll out such cards and develop the necessary applications, and it will take time too for the existing merchant terminal base to be upgraded to new models that support smart cards. That’s already starting, as virtually every terminal now shipped either supports, or is capable of supporting, payments by smart card.

However long the transition to the new technology may take, smart cards are clearly where the industry is going. “There is a general view across all our member banks that the smart card is the future,” says Visa’s Patel.
||**||Solutions on the horizon|~||~||~|
In the meantime, solutions to the immediate challenges faced by credit card issuers are beginning to emerge. If issuers can’t have credit ratings bureaus, then they can be encouraged to practice risk management techniques.

That’s something Visa is doing with its member banks right now. “We’ve now recruited a locally-based agent who can charge round different markets running seminars and educating, one to one, member banks and their risk teams,” says Visa’s Patel.

Another challenge for issuers is to encourage cardholders to embrace business to consumer e-commerce. E-commerce could be a goldmine for credit card companies, since cards are by far the most logical way to pay online.

The problem for the card issuers is that consumers remain paranoid about putting their credit card details online. American Express, which issues its own credit cards, decided to deal with the problem by promising to guarantee payments made online using its new Blue Card.

Blue Card customers can now shop online to their heart’s content and not have to worry, rightly or wrongly, about being a victim of fraud. “Customers will not assume the obligations of unauthorised charges made on their cards with Blue’s Online Fraud Guarantee” says Rasool Hujair, country manager, UAE, AMEX.

Later this year or next year, there could be further good news on the way for online merchants. Visa and Mastercard are developing less costly alternatives to SET, a complex technology that merchants have to use if they want guaranteed payment for goods sold online.

Visa’s alternative is called 3-Domain and Mastercard’s is known as Secure Payment Application (SPA). Both systems are under trial but once they are perfected, it’s believed that both Visa and Mastercard will be prepared to guarantee transactions made on Web sites that support the technologies.

“We’ll be able to know with SPA, just as with SET, whether we have a good cardholder, a good amount, and a good account number,” says Mastercard’s Kranzley. “Only, it’s much simpler for a merchant to implement.” Kranzley also believes that Visa and Mastercard, which have a good record of working together, will work to merge and consolidate their two systems once they are complete.

Clearly, these are exciting times for the Gulf’s credit card companies and issuers. The development of smart card technology, mobile telephony and consumer e-commerce could open up big opportunities for them in coming years. Their challenge is to extend their products and services to a wider audience without exposing themselves to undue risk.||**||

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