Maybe the insightful
Freaknomics boys can explain this to me, because I don’t
The Dodd-Frank bill (also known, felicitously,
as the Credit Card Accountability Responsibility and Disclosure Act of 2009)
is eliminating a whole armada of bank and
credit charges, ranging from over-draft fees to debit charges.
These hidden fees made billions for the banks–representing as much as 15% of their profits and costing unwitting
consumers the same. The numbers are so
staggering that Bank of America wrote off $7.6 in anticipation of the
hit they were going to take.
Unsurprisingly, to recoup some of these lost
profits, banks are responding by dreaming up a new armada of fees that are
compliant with regulation. As the Wall Street Journal recently wrote:
“Some are raising minimum payments on certain customers’ accounts in
order to increase late penalties. Others are ramping up credit-protection
insurance programs and charging customers for coverage without permission.
Still others are pushing aggressively into high-fee prepaid cards, which are
exempt from most of the new rules.”
What I don’t get is why some banks haven’t
gone the other way, why haven’t a few aggressive ones started a price war and
cut their fees in an effort to attract customers and grow market share? Why is this monster market so massively
non-competitive? Occasionally you see
ads promising higher rates–tough to muster in a near-zero rate environment —
but strangely, there’s very little fee competition. (The closest is Ally Bank, but they’re
not in the credit card business.)
Consumer banking is–or at least should be
— a high volume, low margin business anyway, so why not build a big, loyal,
less-but-still-profitable customer base with a lower-free promise? Particularly when the cost of funds for banks
is so low–what better time to launch a price war?
Yes, I know the counter argument–what will
happen is that those banks will attract the least profitable customers. But I don’t buy it. I maintain that in this struggling economy,
and given the anger that the banks have engendered, that customers–good
credit risks, bad ones, and those in-between–will line up. And besides, the price-cutting banks are
under no obligation to lower their credit standards. On the contrary, consumers–and consumer
advocates–would respect that the best prices are only available to those
who’ve practiced good credit hygiene.
Further, I have to believe that the technology sophistication of banks —
analogous to the supply-chain and sourcing sophistication of Walmart–can
enable them to generate increasingly better margins from the same top-line.
Price wars have a long tradition, many in
categories that are less commodity-driven than banking. Newspaper price wars have been studied as
business school cases, with Rupert Murdoch being a master of the
game. So why haven’t we seen banks react to
Dodd-Frank, and the current consumer climate, by cutting fees to attract clients?
There are four potential reasons I can see:
• The most obvious one is that banks need to
replace the lost income that financial regulation has hollowed out of their
bottom line. But that would only hold in
a zero-sum game, where their consumers are locked in–which they’re not. So imagine the marketplace reaction if
Capital One announced that its fees will be half of what Citi charges, no
exceptions, no exclusions. Wouldn’t
there be a stampede of customers? And
then Wells Fargo could jump in and say we guarantee our fees will always be
less than Capital One. Another stampede.
But this would lower the earnings multiples
of banks, and that would drive their stocks down. Once upon a time, before the era of financial
engineering, leverage, and the over-marketing of debt, banks were more like
utilities and Wall Street had one set of expectations for their
performance. Now, banks have to put
better numbers on the board, and the only way they can do that in a more
regulated environment–one that, by the way, also insists on higher cash
reserves – is by squeezing every penny out of their already staggering
• The second reason militating against a
price war is more conspiratorial. The
banks, their trade associations, and their lobbyists have been moaning that
they need these fees to offset unprofitable businesses like checking accounts —
and they’ve threatened the regulators with restricted consumer access to loans
and banking services should consumer financial reform be approved. (Whether or not the banks are accurately
representing their internal economics is another question.)
So after pleading potential poverty to
Congress, it would be hypocritical and embarrassing for banks (actually, banks
only care about the latter, given that the former is part of their mission and
values statement) for them suddenly be able to take the bold step of cutting
• A third potential reason is even more
conspiratorial. There’s an unwritten
hand-shake of collusion going on here; banks know that a price war would
benefit no one in the end–except consumers, of course–so they have a silent
agreement to avoid this kind of mutually assured economic destruction.
• The final hypothetical reason is a
cultural one. Banks are run by people
trained to make money by finding every nickel in the couch, or better, by
securitizing couches and selling tranches of coin-bearing couches to the
pension funds. That’s why all their
“financial innovation” involves shrewd and insidious ways to get around
regulations with fees that are disguised as cleverly as Improvised Explosive
Devices. When was the last time you
heard about any “financial innovation” that actually benefited consumers?
That’s the best I can do when it comes to
figuring out why an industry that seems ready for price wars, is heading in the
opposite direction. But I’m sure the
Freaknomics crew can do better.