Banks are failing US consumers in many ways. Simple p2p inter-bank transfers are non existent outside of PayPal. Countries in Europe have supported such transfers for decades. The average consumer can't easily use the US ACH network (NACHA) via the web as businesses can. Not one single major US bank has innovated in the area of interactive services (web sites, mobile sites, IVR systems, etc). Bank branches are mostly useless and should be replaced by kiosks and interactive services. Banks offer little to no financial planning or education services for the average consumer. However I believe banks' biggest failing is their unwillingness to effectively court and address the needs of the unbanked and low-income consumer, representing thousands of dollars in unnecessary fees and diminished savings potential for the average low income consumer. This last point is the focus of this article.
35% of Americans believe that they can't afford to have a bank account. Some who fall into that category still do maintain a bank account because their employer requires it for direct deposit of salary funds. I believe that the US banking system is failing the low income wage earner with ridiculously high fees, low quality of service and no nudge towards true financial saving and planning. It is time for banks and government bodies that regulate them to step up and change with the times.
The costs of being unbanked have both a direct and indirect component. Let's examine both briefly and then talk about a better approach.
Direct Costs
You've probably heard the expression, "it's really expensive to be poor." "What an arrogant thing to say," was my reaction the first time I heard this. But, examine the numbers and you realize it's true. What do bank services really cost? An honest accounting, or an "apples to apples" comparison to non-banked services must include: check cashing, check writing, bill pay, overdraft charges (versus payday loans), and money transfer. By the way, most people who make less than $35k per year will overdraft their checking account in the US about once per month. Using Wells Fargo as a baseline, current fees are:
Checking account, with checks - $8 per month
Check cashing - usually free if you are an account holder or 1% if you are not
Billpay - $10 per month
Overdraft (assume once per month) - $25 first overdraft, $35 thereafter
$300 Money transfer (US to Mexico) - $14 per transfer (average is 10x per year)
Wells Fargo also offers overdraft finance protection at about %120 interest per year per $40 overdraft. However, most low-income workers will not qualify for this financing. Recent changes to credit card banking regulations by congress have "forced" some banks to eliminate grace periods on credit card bills meaning that consumers can be charged hundreds of dollars per year in interest that they weren't paying before.
Add up all these services and you're paying $766 per year in fees not including any interest charges. Does the average low income consumer believe that they are getting $766 worth of value from a bank? If you said "no way Jose" then I agree. Think about that. Over 25 years that amounts to over $20k in bank fees plus interest charges! What could a low income wage earner do with $20k?
Only about 35% of low income wage earners in the US are online. Some banks' services carry additional fees when you are talking to someone on the phone or go into a bank branch. Of course this doesn't include the monthly cost of being online or having a computer.
Unfortunately the current alternatives for the unbanked aren't much better but at least the fees are cheaper. In California walk in bill pay services will cost about $5 per month for utility bills. Check cashing fees of 1% amount to $200-300 per year. A pay day loan on $100 over 15 days in California can cost $20. A $300 money transfer to Mexico can be had for about $15. That represents about $590 in fees, 30% less than what it costs to be banked but still very expensive. However, the real cost to the consumer of not being banked is the lack of personal savings. There is no "nudge" in the current model to push low wage earner to save as they believe, and rightly so, that the fees will eat into most, if not all of their savings.
Indirect Costs
The indirect costs of being unbanked are potentially worse than being banked.
Not all debt is bad. Some debt is good. An ongoing safety net via a bank line or a home mortgage can be examples of good debt. However low income wage earners can almost never establish the good credit score that it takes to move into the good debt world because they are unbanked which is a kiss of death for a credit score. This pushes such consumers into the bad debt world of pay day loans and other scrupulous lending schemes.
The best way for low income wage earners to make an initial step towards basic financial planning and cash management is direct deposit. It's the first key nudge towards a better life. Without direct deposit the predictably irrational consumer behavior is to spend it all because "that's what you do with cash." This doesn't make low income earners irresponsible, just human. Watch a bank account on a screen and give an account holder investment options and interesting things will start to happen. Direct deposit a portion of funds into an investment account first and even more amazing things will happen. Again, the predictably irrational behavior of us humans dictates that to move forward we function best when bridges behind us are burned down. Direct deposit is kind of like Napoleon burning the proverbial bridge behind the troops to make sure that only one outcome is possible. I believe there is a way to motivate consumers to start using direct deposit even if they believe there balance will go to zero every month.
There is simply no exposure to a better and more secure financial life for unbanked consumers.
A Better Approach
What low income consumers need is access to financial services that are functionally appropriate, inexpensive, easy to understand with a built in nudge towards more responsible behavior. Branchless banking based around the cell phone is the key to offering this type of service in an efficient and inexpensive manner. Branchless banking leverages technology and existing retailers to save on costs and create a comfortable, non-bank like, environment for consumers.
Functionally appropriate services must include: direct deposit, cash/check based loading of accounts, p2p money transfer both domestic and cross border money transfers, bill pay, debit card access and access to micro credit and other credit products over time. Paper checks should not be necessary.
Inexpensive to me means $300 per year in fees - all in. This can be accomplished with a $25 per month service plan which includes unlimited bill pay, unlimited domestic and cross border remits, direct deposit and 2 day overdraft protection for customers that are in good standing. A $60 per month bank plan should also include a mobile phone and unlimited voice/text with a 1 year contract. A second account option would be free for p2p money transfers only (like Paypal) but not include any other banking services.
Cash drop off, and potential check cashing would happen via existing wireless retail stores via installable kiosks or via web screens. These stores are very good at handling cash today because of their prepaid wireless business where they constantly take in cash to reload cell phones. Dropping off cash once or cashing one check per month is included in the $25 fee. The cost is $2 per transaction thereafter. Direct deposit is always free. Cash out (withdrawal) for the free account holders could also be done at these wireless retailers for a small fee as well. $2 seems like a good number for a withdrawal up to $200 per day per store.
All banking services mentioned should be "do-able" via SMS or IVR (interactive voice response) or mobile web. Papers can be signed at wireless retailers when necessary but I can't find a situation where that is necessary except on the $60 contract plan. Talking to an operator should cost extra after the first 90 days. If a bank was generating $25M per month in fees, meaning 1 million customers in this model, it would have a billion dollar market capitalization. I estimate that their gross margins would be in the 35-45% range. The majority of the cost of service would be revenue share with the correspondent bank and wireless retail network. Net profit would depend upon the ability for the service to grow virally by leveraging the p2p money transfers to add accounts instantly or word of mouth versus relying on expensive TV or print ad campaigns.
Several prepaid bank card issuers in the US now offer the close equivalent of correspondent banking services in the US by issuing prepaid debit cards on behalf of third parties. These programs can easily act as the basis for such branchless banking services. Most of the fees associated with these current offerings are too expensive but I'm already noticing downward pricing pressure in their business. The days of ridiculous Green Dot top up fees for prepaid debit cards are almost over.
Close the Bank Branches Once and for All!
Traditional bank branches serve no real purpose. I never go into a bank branch anymore. I opened up all of my personal accounts online or over the phone. I even opened up m-Via's Bank of America corporate accounts over the phone and followed up with signatures remotely.
Savings based products leveraging prepaid technology have much less friction in the sign-up process than do traditional "checking account" type services and can easily be opened without bank branches. If you've ever bought a reload-able prepaid debit card (or reload-able gift card) at a supermarket then you know what I'm talking about.
So why do we need bank branches? We don't. The most complicated of banking products: CD's, IRA's, credit products etc can all be handled via web for high income earners and via phone for low income earners. It would be cheaper for a bank to give every new customer a cell phone than it is to maintain their bank branches the way they do. PayPal has millions of users with no physical outlets.
Mobile phone based branchless banking is the key to unlocking financial services for the underserved in the United States and many other countries throughout the world. I hope many entrepreneurs like my brethren at m-Via get on this bandwagon as soon as possible.
I'm sure that there are many people who will disagree with my personal feelings as expressed here. Please feel free to start a dialog pro or con in the comments section below.
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