Can a ‘Nudge’ Reduce Credit Card Debt?

New experiment finds progress more elusive than expected.

Our recent study about debt holdings of older Americans focused our attention on how credit card debt could get people in trouble.  We, like other observers, bemoaned people’s tendency to pay the minimum required amount, and, like other observers, blamed these minimum payments on the prominence of this option on the credit card company’s billing statement.  If the full amount due came first and the minimum required payment appeared in a secondary slot, we were sure that many more people would increase their payments.  In short, the credit card debt problem seemed like one that could be easily remedied by a “nudge.” 

Wrong.  A recent paper by David Laibson and many co-authors documents how a nudge that reduces the anchoring of credit card payments to the minimum failed to reduce credit card debt.  Let me briefly describe the experiment, the details of the results, and the authors’ explanations for why the initiative failed. 

When customers in the UK open a new credit card online, they are presented with the option to sign up for a version of Autopay – a Fin Tech feature that automatically transfers money from the cardholder’s bank account to the credit card company.  If they decide to opt-in, they are faced with three payment options: 1) Autopay Min – minimum amount; 2) Autopay Fix – the higher of the minimum or a fixed dollar amount; and 3) Autopay Full – full amount due.  Cardholders enrolled in Autopay can also make manual non-Autopay payments either by phone or online.   

The experiment involved removing Autopay Min as a visible anchor when individuals open their card.  Of course, Min remains an option operationally if participants choose a very low Autopay Fix amount.  The outcomes for individuals in this experimental group were then compared to those of the control group whose options included Autopay Min.  The notion is that removing Autopay Min increases the salience of Autopay Fix, which was expected to increase automatic payments and thereby reduce debt and interest costs. 

The headline results were dramatic.  The de-anchoring reduced Autopay Min enrollment from 36.9 percent to 9.6 percent.  (Participants in the experimental group were no more likely to pay the full balance than those in the control group.)  Importantly, however, after seven payment cycles, the researchers found no difference, on average, in credit card debt, spending, total payments, or borrowing costs.  Thus, the nudge was ultimately ineffective. 

Why didn’t the nudge work?  The researchers offer three reasons.  Perhaps the most important is that nudged cardholders set up Autopay Fix amounts that were only slightly higher than the minimum amount due.  In fact, in the long run they were no higher because the minimum rises automatically over time as card balances increase.  Second, cardholders in the experimental group were less likely to sign up for Autopay than those in the control group, which resulted in more missed payments.  Third, those cardholders in the experimental group who did enroll in Autopay made lower supplemental manual payments.  All these offsetting behaviors reflect the fact that many participants had very limited liquid cash balances. 

The fact that nudges are not the answer to staggering amounts of credit card debt is both discouraging and intuitive – upon reflection.  In our earlier study, the largest group (33%) of at risk debtholders consists of “financially constrained” households, which have low levels of wealth, are often overleveraged, and struggle with the essentials.  This group is borrowing just to get by.  They do not have the cash to pay for new tires for their car so they can get to work. They have to use a credit card to cover an emergency expenditure.  And, given their financial constraints, they cannot pay more than the minimum.  They may be charged 25 percent or more on the unpaid balance, and accumulate enormous interest costs over many years.  

This seems like a terrible arrangement.  People need some way to cope with emergencies without being socked with sky-high borrowing costs and no way to get out.  Solving the problem – at least for vulnerable groups – is going to require much more than a nudge.