Why High-Cost Consumer Debt Is Easy to Underestimate

Debt is not one thing. A fixed-rate mortgage, a credit-card balance, an interest-free instalment plan, and a two-week payday loan have different costs, purposes, and risks. Calling all borrowing foolish obscures those differences and turns a financial mechanism into a judgement about the borrower.

The original version of this article made that mistake. It also applied research about compound growth too broadly, as though every consumer credit product compounds in the same way and behavioural bias explains why people use it. The more defensible question is why the cost of high-priced debt can be difficult to evaluate.

This is general reporting about consumer credit, not personal financial advice.

Costs depend on the contract

Many credit-card issuers calculate interest daily. The US Consumer Financial Protection Bureau explains how a daily periodic rate is derived from an annual percentage rate, or APR. When each day’s interest is added to the balance used for the next calculation, interest compounds daily.

A card may also have a grace period for new purchases, different rates for purchases and cash advances, promotional rates, and fees. A person who pays the full statement balance by the due date may pay no purchase interest, while somebody carrying a balance can face a very different cost.

Payday loans often work through fixed fees and short repayment periods rather than the same daily compounding formula. The US Federal Trade Commission gives the example of a $15 fee for each $100 borrowed for two weeks, equivalent to an APR of 391 per cent. If the loan is rolled over, another fee may be charged while the original principal remains due.

The costs can rise quickly in both cases, but the mechanism is not identical.

Buy now, pay later is another distinct product

Typical pay-in-four buy now, pay later loans divide a retail purchase into four instalments over about six weeks. Many charge no interest. The CFPB’s 2025 market report describes a sector that continued to expand between 2019 and 2023, based on data from six large providers.

Interest-free does not mean consequence-free. Depending on the provider and account, missed payments can lead to late fees, loss of access, debt collection, or bank overdraft charges when automatic payments fail. A borrower can also hold several plans at once, making the combined schedule harder to see.

That is different from saying BNPL is designed to compound against the user. The standard short pay-in-four product usually does not charge compound interest. Longer instalment loans sold under similar branding may carry interest and require a separate reading of their terms.

People often underestimate exponential growth

Victor Stango and Jonathan Zinman studied exponential-growth bias and household finance in a 2009 Journal of Finance paper. Exponential-growth bias is the tendency to treat compound growth as though it were closer to a straight line.

The authors showed that this bias can produce underestimates of an interest rate when other loan terms are given, as well as underestimates of a future investment value. In household data, people with greater measured bias tended to borrow more, save less, choose shorter maturities, and make more use of financial advice, after the researchers controlled for a range of characteristics.

Those associations are more relevant to debt than the savings-only example used in the original article. They still do not show that miscalculation causes every borrowing decision. Income timing, emergencies, medical bills, housing costs, credit access, product design, and lack of cheaper alternatives can all shape the choice.

Present bias is not a complete explanation either

Behavioural economics also uses the term “present bias” for giving disproportionate weight to immediate costs and benefits. Immediate access to cash or a purchase can feel concrete, while several future payments appear separate and distant.

That model can help explain some decisions. It should not be used to describe a product as “perfectly designed” to exploit the brain unless there is direct evidence about its design and effects. Nor does it justify saying debt is rarely connected with judgement or responsibility. Behavioural tendencies interact with prices, information, regulation, resources, and circumstances.

The marketing and interface of a loan can matter, but the contract still determines the cost. APR, fees, repayment dates, the treatment of missed payments, and whether interest compounds are more informative than the label attached to the product.

A precise conclusion

High-cost consumer debt can be hard to evaluate because short timeframes, fees, daily interest, repeated rollovers, and multiple repayment schedules do not all translate intuitively into a single cost. Research indicates that some people underestimate exponential growth, and official data show that credit products differ substantially.

For researchers and regulators, the open questions concern disclosure, product design, access to alternatives, and how borrowers manage several obligations at once. Those questions cannot be answered by a moral label.

That supports careful comparison. It does not support calling every borrower foolish, treating every loan as a trap, or claiming one cognitive bias explains why intelligent people use debt.