When is the last time that "five dollars per month" caused as much of an uproar as the recent announcement that Bank of America would charge that amount for its debit card-holders?
The closest comparison that comes quickly to mind is when college kids in my generation, a long time ago, bought books on how to see Europe on only five dollars per day. Today, the internet is full of ads that tout five dollars per day as a low price for certain services. Yet the Bank of America announcement generated enough negative energy that even the president found reason to comment.
In recent conversations with my wife and daughter, we have mused on the fact that the chattering class is enraged about a five dollar per month debit card charge while quite comfortable with a four dollar per cup charge for a latte. The issue needs to be examined.
First, and most obviously, while Starbucks has made a case that their latte has sufficient value to justify a four dollar charge, the banking industry has not yet made been able to make a similar case for its fee for debit card usage. On the face of it, this seems ludicrous. The debit card is a technological marvel. The technology has required billions of dollars of investment to develop and install. The interchange capability required complex legal arrangements to address issues involving clearing financial transactions through multiple systems.
In many ways the investment has produced value. The debit card has reduced merchant exposure to returned checks. It has enhanced availability of funds. It has significantly improved the efficiency of retail transactions. As with all financial transactions, there remain issues of fraud and technological glitches, but on balance the impact has been very positive.
So why do banks struggle to make their case? First, the revenue generated by these cards came from fees attached to the transactions and were paid largely by the merchants. So to this point, debit card usage by consumers was largely free of charge. An abrupt new fee always attracts attention. Second, attaching fees to transactions has always been problematic for banks. When I go into a Starbucks to buy a cup of coffee I know the price takes into consideration the markup on coffee, milk, the cup itself, and whatever else is involved in delivering the final product. I do not try to disaggregate the charge to determine how much falls in each of those categories. But when banks attempt to mark up the transaction involving a dollar, the fee for the service is stark. It stands out in a manner that makes it both obvious and occasionally controversial.
Further, consumers tend to think of check writing and debit card usage as a means of accessing their own money and at times react negatively to being charged for that access. This reaction discounts the value of having deposits that are safe, insured, readily available when needed and limits the need for carrying cash.
So what conclusions can we draw from this experience?
For starters, this is one of the first of what may prove to be a significant number of unanticipated consequences of passage of the Dodd-Frank Bill. The so-called Durbin amendment required the Federal Reserve Board to draft regulations limiting the amount of interchange or "swipe" fees that banks could charge. This provision took effect on the first of October. While bankers differ on the ultimate effect of the rule, all agree that bank revenue will be significantly impacted. As a result, fees on bank products across the board are being reevaluated. Will this reduction in fees benefit consumers? Most observers think that is an unlikely result. The Durbin amendment is a victory for merchants certainly, but it is not clear that it will reduce costs to consumers. Expect similar discussions as the implementation of Dodd-Frank continues.
Second, coming back to my opening point concerning the four dollar latte, banks will need to rethink how it prices for services. For many years banks have adjusted fees based at least in part on the elasticity of that fee. Said another way, banks historically raised the fees that consumers complained about the least. Fees for overdrafts were examples of that approach. Because few customers complained about overdraft fees — especially when their checks were honored — increases in overdraft fees were relatively easy to implement. Banks will need to think prospectively about how fees for services are determined and how fees are communicated.
Recently banks have also been criticized for being opaque about how fees are established and communicated. In order to avoid the five dollar per month eruption that we have just experienced, the communication will have to get much better.
Mark W. Olson has served as a Federal Reserve Board governor, chairman of the PCAOB and chairman of the American Bankers Association. He currently serves as co-chairman of Treliant Risk Advisors LLC and can be reached at firstname.lastname@example.org.