A Brief History of the Credit Card

Today, credit cards are ubiquitous. Everyone from department stores to savvy street vendors accept plastic. While definitions vary, the first true general purpose credit card with multi-state acceptance was most likely issued by Bank of America in 1966. There were many predecessor cards issued starting from the late 1800s. Milestones included the proliferation of store specific cards during the 1920s, cross acceptance of store cards in the late 1930s, the first bank issued debit card, "Charg-It" by Flatbush National Bank of Brooklyn in 1946, and the first widely used cardboard Charge Card by Diner's Club in 1950--though it required payment in full at the end of each month.

The concept, and even the name "credit card," was used as early as 1887, when the socialist writer Edward Bellamy included credit cards in his Utopian novel, Looking Backward. It was not until the 1920s, however, that merchants established a system by which their frequent customers could purchase goods and services on credit. These early credit pioneers primarily used the system to sell fuel, but telegraph company Western Union also got in on the game as early as 1921.

Initially, businesses would only accept their own cards--a far cry from the use-it-anywhere convenience that today's shoppers enjoy. By 1938 some companies had started to recognize one another's cards, accepting them as payment, but these were "charge cards," extremely different from today's plastic.

As anyone who has had a credit card knows, balances can be carried over from month to month (along with interest of course), but that wasn't the case with early charge cards. These payment methods, including the Charga-Plate, Diners Club card and even the first American Express cards, required that users pay off their entire balance each month, severely limiting the use of the cards as well as the profit that could be made from them.

The consolidation of existing cards allowed the remaining ones to become accepted in a wider variety of locations and soon, card companies began attempting to offer revolving credit, which could be carried over indefinitely with the accrual of regular interest. The first lender to succeed in offering a true credit card was Bank of America with the BankAmericard in 1958. Though this was the first "revolving credit" card, it was accepted only in California due to federal banking regulations. In 1966, Bank of America set out to address the problem by forming licensing agreements with banks in other states and overseas, an effort which eventually led to the creation of Visa. In 1967, four banks in California set out to compete with Visa by establishing Master Charge. The groundwork was laid for what would become MasterCard, as the Master Charge merged with Citibank's Everything Card.

While there have been significant advancements in the realms of credit card production, security, and applications, the basic structure has remained the same since the very first Bank Americard. After applying for and receiving a card, consumers may use it at any affiliated merchant, purchasing goods and services up to their personal spending limit. Anything not paid off at the end of a period (usually a month) accrues interest, which must eventually be paid to the card-issuing bank.

Interest Rates

Like other interest rates in the United States, credit card APRs (Annual Percentage Rates) use the Federal Reserve's interest rate as a starting point. As the credit card companies must offset business expenses and the cost of consumers defaulting on their debts, however, their rates must be significantly higher in order to continue turning a profit.

As documented by the Federal Reserve, the average credit card interest rate in 1974 was 17.20%. Over the next two decades, the average rate rose slightly before dropping significantly in the mid-1990s to just around 15.50%. That number stayed largely consistent up to the present, when the average APR is closer to 14.76%, according to our friends at BankRate.

Oftentimes, in an effort to lure in new customers, card-issuing banks will offer cards with a lower initial APR that eventually jumps up to more average levels. This is done with the hopes that consumers will have grown accustomed to a low interest rate and will be carrying significant debt when the new, higher rate goes into effect. Moving forward, credit card companies make up for lost interest with these higher rates.

This practice came under some scrutiny under the CARD Act, which was implemented throughout 2009 and 2010. Banks used to be in the practice of applying monthly payments to the lowest APR balances, leaving remaining balances to accrue maximum interest. This made the profitability of banks' balance transfer credit cards more attractive than they might initially seem: a 0% APR for 12 months meant that your transferred balance got paid off first, while your purchases accrued interest at 15% or so. The CARD Act now requires that after the minimum payment, payments must be applied to the highest APR balances first.

Rewards

With the proliferation of so many different credit cards operating under a number of different credit card associations, competition is fierce to sign up new customers, which has led to a number of other developments. In an effort to sweeten the deal and encourage use of their cards, many companies offer "rewards," which can take the form of frequent flyer miles, consumer goods, or even cash back credit cards. The rewards are generated when customers use their card at a specified location or in a specific manner, such as groceries, gas, or plane tickets.

Growth in Popularity

Credit card debt has skyrocketed since the concept was introduced. In 1968, there was over one billion dollars of outstanding revolving consumer credit, but today there is over 800 billion dollars according to the Federal Reserve. Even accounting for a population that has more than doubled and the constant effects of inflation, that makes for a more than 10,000% increase--a staggering figure.

In the year 2010, American culture has fully embraced the credit system, as many purchases, such as houses or automobiles, are rarely conducted with straight cash or checks. Also, individuals' consumer credit scores have become increasingly important, as they can be a determining factor in everything from renting a new apartment to scoring a new job. This necessitates that consumers actively use credit cards to build up their scores which, in unfortunate circumstances, can lead to unmanageable debt.

Credit cards have come a long way from the early store-specific charge cards of the 1920s. Now, your Visa, MasterCard, American Express or Discover card can be used everywhere from a souvenir shop in a foreign country to your rent back home. The omnipresence of credit cards and the necessity of having at least one, however, has made it even more important to ensure that you have the best card for your needs, means and purchasing habits.

Tim Chen is founder and CEO of NerdWallet.com, a website that helps consumers to compare low APR credit card offers.