How did we get to this point? Credit is a part of our everyday lives, and good or bad credit can make you or break you. Because of credit, you can buy a home for your family without hundreds of thousands of dollars in the bank. You can spread out the payments on a large item like a new automobile. If you need a loan, your prospective lender can make a decision extremely quickly.

Old-Fashioned Credit

People have been borrowing since ancient times. How did somebody with resources know who to lend to? They made a decision based on that person's character. The grocer might allow a regular customer to pay later based on past experience. Since the customer always paid for her purchases, she would likely pay again in the future.

In cities and towns, a variety of merchants might offer credit. They would allow customers to walk out without paying for food, clothing, furniture, and more. As populations grew, it became harder to know every customer personally. Therefore, merchants began to share information on their customers. They formed associations that are the roots of today's gigantic credit-reporting companies. Chambers of commerce were also responsible for forming early credit-reporting associations. For the most part, these associations were within a limited geographical area, like a single city.

As the population and the economy grew, it became necessary for associations to gain a wider geographic reach. A consumer might move to a town, but have a credit history in another town. To meet this need, a trade association was formed in 1906. The National Association of Retail Credit Agencies allowed associations to pool their knowledge and increase the number of consumers that they could report on.

Evolution of Credit

Through the years, smaller associations have merged or been bought by larger organizations. Bigger and bigger companies emerge with a single focus on consumer credit reporting. They developed sophisticated computer systems, and they amassed more and more information on consumers. Today, the market is dominated by three of the largest consumer reporting companies: Equifax, TransUnion, and Experian.

When consumer credit-reporting companies first started to operate in the United States, they mostly helped merchants. People did not use credit cards or finance companies in their everyday lives. Instead, the merchant would extend credit. For example, a clothing store might allow customers to pay for their purchases over time. If a customer failed to pay, the clothing store owner would lose money. These days, things are different. If you buy clothes with a credit card and then go bankrupt, the credit card company loses money, not the clothing store.

In the early 1900s, most debt was held directly with a retailer. Today, most debt is on the balance sheet of a finance company. Retailers benefit because they do not have to take the risk that somebody will not repay. They're in business to sell products, not manage loans. Finance companies also benefit because they earn interest. Part of the reason for this shift is the fact that finance companies were prohibited from charging interest rates high enough to make a profit on small loans. Because usury laws have changed, banks and finance companies can now make a profit on these loans.