The fees that the Federal Reserve has decided to impose on banks that overdraw their Fed accounts may not be large enough to curb the practice, bankers said Thursday.
The fees, debated for years, were finally adopted on Wednesday. They are intended to reduce the central bank's exposure to so-called daylight overdrafts, which peak at $180 billion on the average day.
Fed officials believe the fees will force banks to change their transaction flows to avoid overdrafts. Beginning in 1994, the Fed will start changing banks a fee of 10 basis points annually for average daily overdrafts that exceed 10% of their risk-based capital. The fee will rise to 20 basis points in 1995 and 25 basis points in 1996.
But many Fed watchers contend that the fees are too low to spur the industry to significantly reduce the intraday overdrafts, which occur when banks send out more in payments than they receive and can last for a few minutes or hours.
If banks don't change their ways, the Fed may increase its overdraft fees to create more of a financial incentive.
A Bid to Change Habits
"If this level of fees does not have the behavioral modification effect the Fed looking for, my guess is that they would increase the fees," said Robert Ballen, partner in the law firm of Morrison & Foerster in Washington, which represents the California Bankers Clearing House Association, based in San Francisco.
Even Fed officials concede that they may have to come back to re-address the issue. "The board will look at the response, and determine if the fees are enough, or if some other approach" should be tried, said Florence Young, assistant director of the Fed's division of reserve bank operations and payment systems.
Meanwhile, many bankers are chafing at the mere suggestion that the Fed should charge for daylight overdrafts. "If you're in the settlement business, like the Fed is, you're bound to have daylight overdrafts," said Paul Finch, chief executive of the Arizona Clearing House Association.
"I personally don't think that the notion of charging on a minute-by-minute basis makes any sense."
About 15 of the largest banks in the country account for the vast majority intraday overdrafts, according to the Fed. Bank of New York Corp., BankAmerica Corp., and Chemical Banking Corp. together account for 60% of daylight overdrafts because of their mammoth government securities-clearing businesses, a Fed official estimated.
But the fees will affect an estimated 300 banks, many of which will simply absorb the cost of the charges, rather than develop the expensive computer monitoring systems needed to pass on the fees to their corporate customers.
At the same time, some of the largest banks, many of which already can monitor their customers' accounts as changes occur, are contemplating passing on the Fed charges to their corporate customers.
But the behavior of banks involved in the government securities clearance may be difficult to change. "We overdraw in order to grease the wheels of the payment system," said a banker at a major clearing bank, who asked not to be identified.
If the clearing banks pass on their costs to the brokers that buy and sell government securities, the costs will simply be passed back to the Treasury in the form of higher rates, the banker said.
"The overdrafts in government securities will remain, and the banks probably will pay the cost," said John F. Lee, president of the New York Clearing House Association.
Ways Around the System
Mr. Lee also said that banks may try to circumvent the Fed system, with some corporate payments moving to Chips, the Clearing House Interbank Payments System, which is run by the New York clearing house.
Banks are also considering moving their fed funds transactions to the automated clearing house system, said Elliott McEntee, president of the National Automated Clearing House Association.
This troubles some bankers, who say the ACH does not have adequate controls, such as debit caps or bilateral credit limits, to handle the risk of large-dollar transactions. "I worry about that," Mr. Lee said.
Many of the biggest banks can monitor their customers' accounts to some extent, but not all accounts may be tied into a single risk-monitoring system.
Ms. Young said the Fed hopes banks will avoid overdrafts by delaying corporate-to-corporate payments until later in the day, when the corporate account has sufficient funds to cover the transaction.
Ms. Young said that the Fed expects banks to enter into more agreements by which they keep accounts with each other, but do not transfer vast sums of money each day.
Arrangements such as bilateral netting, in which banks transfer a lump sum at the end of the day, are expected to increase.
Ms. Young said that banks may increasingly enter into agreements to roll over their borrowings from day to day, or to have continuing contracts in which only interest payments and the difference between a given day's and the previous day's credits would be remitted by the borrowing bank.
"We believe lending institutions will take appropriate steps to limit risk."
If bank behavior does not change, the Fed will earn $26 million from overdraft charges in 1994, and $60 million in 1996 when the Fed will charge 25 basis points.
Retooling the Payment System
Actions taken at Sept. 30 meeting of Federal Reserve Board 1 Agreed to levy fees on banks that maintain average daylight overdrafts exceeding 10% of their risk-based capital. Fees will start at an annual rate of 10 basis points in 1994 and will increase to 25 basis points in 1996. 2 Adopted more frequent posting deadlines for settlement of checks and commercial paper, causing daylight overdrafts to increase industrywide by an estimated $30 billion per day. 3 Adopted new rules intended to expedite settlement of checks cleared outside of the Fed system. 4 Requested comments on extending Fed Wire operating hours to accommodate futures and options markets. Source: Federal Reserve