Starting last Saturday, Oct. 1, large banks had the interchange fee income they could get from merchants when their customers used their debit cards slashed 45% as a result of the Durbin Amendment. These large banks will lose roughly $7 billion in revenue annually as a result.
Most people used to get their debit cards for free with their checking accounts. Banks used the revenue they got from the merchants to cover the costs of their debit card programs and to encourage people to open up checking accounts by offering free checking. That’s in part why about three quarters of Americans with checking accounts got them for free as of early 2010.
Large banks have been trying to figure out how to offset these massive revenue losses. Bank of America was the latest to weigh in last week with a plan that has put lots of heat on itself for nickel and diming their consumers and on Senator Durbin for setting this debacle in motion. Unlike many other large banks that are quietly raising checking account fees and slashing rewards, Bank of America decided to charge consumers five bucks a month to use their debit card.
The higher consumer fees aren’t a surprise to any of the economists that studied the Durbin Amendment. I, along with Bob Litan and Dick Schmalensee, predicted that banks would try to recover most of the lost revenue through higher fees and cutting programs in the submission we made to the Federal Reserve Board in February. (Related: The Net Effects of the Proposed Durbin Fee Reductions on Consumers and Small Businesses) The Fed’s economists recognized that higher bank fees were pretty likely when they announced the final rules, but of course, were just doing what Congress told them to do.
This is known in economics as a “waterbed effect.” If you sit on a waterbed, all the water beneath you just goes to the other side. Well, the same is true for products that are getting revenues from two groups of consumers to support the costs of the product. If you lower the revenue that one group is contributing, the revenue the other group has to contribute goes up. With debit cards, when merchants pay a lower price because of a price cap, the banks have to make consumers pay a higher price.
Bob, Dick and I have estimated that over the next couple of years large banks will increase fees to consumers by up to $15 billion. Small banks may end up raising fees as well if they end up getting lower interchange fees, too (they are exempt, but market forces may reduce what they can get) or if they figure they can raise fees too given what their large bank competitors are doing (the large banks put up a pricing umbrella). Our guess is banks won’t get the whole enchilada back, but they will probably get a pretty large portion of that $15 billion through higher consumer fees (or lower services like IBC did last week by closing bank branches). They don’t have much choice. The checking account business is pretty competitive and it isn’t as if there is a big profit cushion that the lost revenues can come out of.
That doesn’t mean that other banks are going to follow in the footsteps of Bank of America and raise debit card fees. In fact, Citibank says they won’t. But consumers have come to expect debit cards as part of the basic set of services they get with a checking account. Just like it is easier for restaurants to raise the price of the meal than charging extra for bread, it is easier - and less irritating to consumers - for banks to raise the cost of the checking account or to trim back on some of the other services. This is in fact is one of the reasons that free checking is going the way of free peanuts on airplanes. Free checking has dropped from 75% to 45% of accounts in a bit more than a year. And in any event, after the public relations disaster that Bank of America has brought on itself, it is hard to imagine many other banks heading over this particular cliff.
Taxpayers have a lot of valid gripes against some of the large banks. Raising checking account fees and even charging for debit cards shouldn’t be one of them. That is the direct result of Congress passing the Durbin Amendment that quite predictably moved billions of dollars of money from the pockets of consumers, who are footing the bill for the banks’ loss of revenue, to large retailers who are likely to keep billions for themselves even if they pass a bit back to consumers in lower prices. Banks aren’t yet public services that consumers have a God-given right to use without paying for them. Banks are publicly traded companies with shareholders who can’t simply turn around and tell them, sorry, I just lost 45% of my revenue, and you’ll just have to be OK with that.
Some people have said the banks raising rates is the law of unintended consequences - that’s the law that says seemingly sound regulations often have bad results that weren’t anticipated. Sadly, they are wrong here: the consequences were intended. The Federal Reserve Board, many economists and others knew that consumers were going to get whacked. Fifty-five Senators voted to delay the Durbin Amendment to consider these impacts more carefully in part because they were worried about consumers paying through the nose. They were five short of what was needed to prevent a filibuster lead by Senator Durbin.
So when you pay your bank more for your checking account or for using your debit card, growl at the bank for sure, but keep one thing in mind: you’ve been Durbin-ed.
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Filed Under: Payments