Credit Cards 101: How it Works, a Beginner Guide
August 4, 2020 - Money Bits
A credit card swipe.
Something you see so often it doesn’t even strike your imagination anymore.
But right there and then, someone could just be using a convenient tool to spend their money, or sinking themselves further into a financial hole.
Believe it or not, the first time the concept of a credit card was proposed was way back in 1887. Edward Bellamy, a utopian Science Fiction writer, proposed such a system, though it remained largely theoretical. It took more than five decades for actual credit cards to begin going into use.
Since then, credit and debit cards have undergone technological transformations and few operational changes to become what they are today. Credit card giants, Visa and MasterCard, are international behemoths with revenues more than the GDPs of entire countries.
Credit cards have become incredibly popular because they are a convenient way to pay for everyday purchases.
The intricate network of central banks, banks, and credit card companies that dominate modern finance seemed untouchable until only a few years ago. Fascinating innovation and tech are proving to be a challenge that these entities will contend with for years to come.
Though credit cards are the general term most people know, it is important to distinguish it from a debit card. With a credit card, you are essentially borrowing money from a card issuer up to a certain limit to pay back in the future. For a debit card, you spend money you have already deposited in the bank.
There you have it; credit cards mean that you spend money on credit. The fact that the average American household owes about $8,000 in credit card debt is no surprise, given the consumer culture in this country. Today, more than 100 million Americans have credit cards, with the average credit card holder having multiple cards.
How Credit Cards Work
When issuing a credit card, issuers will set a credit limit for a particular user based on their confidence in your ability to pay it back.
Credit card money does not come like a typical bank loan where you get a full loan. Instead, you can take some amount of the loan gradually provided you operate with the credit card limit. Should you choose to take out cash, you get interest rates charged each day after you take out the cash, but this could vary depending on your card issuer. In general, taking cash out is a bad idea if you want to avoid fees and penalties.
Should you manage to pay back the credit within a month, you usually pay no interest. However, if you don’t pay back in time, you get an interest slapped, with some card issuers backdating to the day you took out the first credit.
When you do an actual swipe, the merchant terminal asks your credit card issuer whether you have credit, and whether the card is valid. The card issuer responds electronically with an approval or decline. The card issuer transfers the money to the merchant if the former is true, and you inch closer to your limit. If you pay within the grace period, you escape most of the fees and penalties.
Interest rates depend on your credit history, and the credit card company. If you need to keep using a credit card, you need to pay the monthly minimums and avoid late penalties. These fees can be devastating if you have an already spiraling debt situation.
Pros and Cons of Credit Card Use
The following are some advantages and disadvantages of credit card use:
- Convenience- the primary advantage of a credit card, or a debit card for that matter, is their convenience. A simple swipe eliminates the need to carry cash when shopping or making certain payments, and a legitimate card has pretty much universally accepted. The credit card itself is theoretically safe compared to cash.
- Access to credit- Let’s face it, the name speaks for itself. Credit cards allow millions to access the money they wouldn’t ordinarily get. If you have irregular income, a credit card can allow you to stay afloat as you wait for your finances to be in order.
- Bonuses and rewards- Some people love credit cards for perks like air miles, reward points, and cashbacks.
- Risk of a debt spiral- taking out a credit card always seems sweet and innocent, but the situation can get out of hand fast. The ripple effects from one late payment may take years to manage. Always be careful to avoid falling into a debt spiral.
- Hidden charges and fees- there are many fees when using a credit card, some of which may not be readily apparent when you take out the card. Take note of the fees for cash withdrawal before taking out that option.
- Susceptible to fraud- you are a lot safer from being mugged on the street, but credit card fraud is a legitimate concern. Be careful with your credit card information.
Is The Financial Status Quo’s Future Guaranteed?
Credit card companies and banks have dominated finance in the past two decades. The 2008 financial crisis was a moment of reckoning for this sector because their practices were at the core of all that went wrong. There is no escaping the fact that most people feel that banks and card companies were at fault.
And what do they do really? Mostly acting as middlemen in a financial system where they have positioned themselves to make billions of dollars from their role. That is a role of immense power and probably fueled the sentiment around movements like Occupy Wall Street. Needless to say, banks and card companies don’t have a great reputation, only that most people don’t have any other options.
Or do they?
Well, card companies and banks are mostly middlemen. They make money by facilitating transactions and interest for those who can’t pay in time. Most of the work is done by computers yet these companies rake in tons of money.
Eliminating the Middleman
So, what if the middleman role gets eliminated altogether? You know, a decentralized financial system with peer-to-peer transactions, and gives control to the user.
If that doesn’t sound familiar already, get acquainted with cryptocurrencies. These are digital assets that leverage blockchain technology to create a decentralized monetary and value system. No longer will you have to worry about being on the wrong side of a bank or card company in getting your transaction approved.
What’s more? The most famous of cryptocurrencies, Bitcoin, is not only a currency but also a store of value assets. As a matter of fact, Bitcoin was the best performing major asset in the last decade. Owning Bitcoin means that you have the potential to get rewarded immensely when its value appreciates.
How do you get Bitcoin?
For one, you could buy Bitcoins. However, a better way to own Bitcoin is mining. Mining requires you to have mining equipment and you will keep generating Bitcoin consistently. The block reward of 6.25 BTC means that should you get the block rewards, you instantly have over $50,000 worth of Bitcoin.
Mining goes on 24/7 provided you can have affordable power and cooling for the machines.
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