I’ve been a proponent of cash-back rewards credit cards for a while. My theory, or perhaps my excuse, is that if I plan on spending money and can do so with either cash or a credit card that offers rewards, I might as well use the rewards credit card to damage my bottom line less or take advantage of a free flight I would have otherwise paid for.
This is nice in theory, but there are some drawbacks. First, there is a negative effect on retailers. Rewards credit cards cost more to process than standard credit cards, which will eventually drive up the costs of products for all consumers. The more the public uses rewards credit cards, the higher products must cost in order for businesses to maintain the same profit margin. The fees are outlined in the merchant agreements available publicly from Visa and MasterCard, so the higher cost to the retailer is not a secret.
On a personal level, if you carry a balance on your credit cards and pay interest, your costs to use the card will outweigh the cash-back benefits or other rewards. Even those who pay balances in full every month, buying only what could be covered with cash, will spend more simply because they are using a rewards credit card. A recent study conducted by the Federal Reserve Bank of Chicago shows that rewards programs increase spending with the more beneficial credit card, but this is partially offset by a decrease in spending on other cards. Consumers who take advantage of cash back rewards programs increase their total debt after being the program, so that means there are enough people carrying balances on these cards to make the programs less worthwhile.
The study does not show if the increase in spending with a rewards credit card is offset by a decrease in spending with cash, however.
Nevertheless, users of rewards credit cards should carefully consider — on an individual level — whether their spending has increased as a result of the appeal of a rewards program. As part of taking control of your finances this year, tracking and analyzing your spending is one of the most beneficial projects you can do to help your bottom line. It doesn’t have to a be a big project, but you should know whether your favorite rewards program is actually helping or hurting your finances, regardless of how you feel when you use your miles for a free flight or receive a check for your cash back.
You can look at the studies like the one by the Chicago Fed. It’s generally safe to assume that any one person (you) is just like the typical consumer described using averages, but I do have a problem with blanket statements. No study but your own analysis can tell you what happens with your money; studies and surveys can only help you understand what is typical, offer warnings, and raise awareness.
Published or updated January 17, 2011.