Doubling the interest rate on current accounts for 19 million accounts could add an additional £2.4 billion a year income for banks: so how do we handle this with empathy during a pandemic?

The economy is been brought to its knees by the Coronavirus and many, many people will be struggling with less income through the rest of 2020. 19 million of those people are using arranged overdrafts each year at banks. From April banks[1] will be banned from charging unarranged overdraft fees although they still can charge interest rate fees. The fees and procedures charged by each bank for unarranged overdrafts varies by bank with interest rates ranging from 35% to 49.99%. 

The FCA[2] has introduced reforms to make overdrafts simpler, fairer, easy to manage and will protect the millions of consumers using these overdrafts. The banks have to comply with these regulations. 

Instructed by the FCA to give easy-to-understand pricing and interest rate charges, the majority of the banks have simply doubled the existing overdraft interest charges to 40%. 

The existing £2.4 billion per annum income stream for banks will now become £4.8 billion. At a time when the banks’ clients will need more credit through the remainder of 2020 during the unknown self-isolate period, this doubling of fees could not come at a worse time for consumers. 

The excellent article by the  BBC[3] ‘My overdraft will nearly double - why am I being punished?’ highlights the doubling of fees for a £2,250 overdraft. Many people have had overdrafts for years and now must adjust their credit mix to absorb the new hefty pricing. What can people do?: we can use some of our self-isolation to review our finances

High bank account overdrafts need to be addressed through sourcing cheaper funding and, with good credit ratings, these include up to 10% for personal loans and under 25% on credit cards.  The consumer should:

1. Check how much in the last twelve months the bank account was overdrawn

For example: in the BBC article, the predicted cost of the £2,250 overdraft will increase from around £43 a month to over £74

1. Decide on whether to DIY or take advantage of Open Banking solutions, instigated by the FCA, to manage this on your behalf
   1. A 2019  survey[4], showed people who seek financial advice, generated 27% higher savings than those that did it themselve
   2. Open Banking provides FCA-trusted Third Party Providers (TPPs) to help manage money: Banks can be TPPs:  TPPs, like mortgage brokers, can find a mixture of credit from a variety of sources with you staying in control, approving and seeing every transaction.  For example, if the TPP could create £2,500 pool of credit of 15% per month instead of 40% then one could save £46 per month. If the TPP charged a 10% fee, £4.6 per month, the savings would still be over £40 per month and cover, for example, the cost of high-speed Wi-Fi.

For banks this a great revenue and income opportunity 

Given the Bank of England has moved the base rate to 0.1% the cost of funds for banks are low – notice the ongoing reduction in interest for savers – so this £4.8 billion annual revenue has even greater profitability for the banks. In addition, the existing banking infrastructure supporting the current accounts is in place so costs for the bank remain virtually the same.

This means the additional £2.4 billion revenue is virtually 100% margin, thus increasing the attractiveness of the banks to stock market investors and venture capitalists. Not helpful for the customers needing credit to substitute for the lack of income due to the pandemic.

What the UK Government could do to help:

Given the current pandemic and the Chancellor looking to fund individuals that need a cashflow, the best choice would be for the Government to instruct the banks to defer the new pricing until 2021. This way the extra £2.4 billion generated by the banks – both traditional and challenger – from the increase in overdraft rates take place when people and the UK Government can better afford it. Alternatively introduce the new pricing in a gradual way to help people cope with the increases.

A number of the banks are starting to educate people on money[5]. This Utube ad brings out the sense of magic around money which is fun. The ending when the girl gives the money back to the adult to look after is retro. UK education has only just begun to add money to its curriculum to teach young adults about money and finance in schools.

As Bill Gates noted, when computers arrived at his school it was the pupils that taught the teachers how to use them. In this vein, perhaps the next Utube ad will show how the young, regardless of gender, can help mature adults handle money properly given we have over 1 million people using pay day loans. These cost an average 1,500% i.e. for £2,500 you will pay £37,500 in fees and still owe £2,500 at the end of the year.

Are there any White Knights out there?

The FCA has created Open Banking. Open Banking permits trusted third parties (TTP) to handle your money on your behalf, with your consent and under your control. TTPs are registered with the FCA and can make payments, with a full tracking history, on your behalf.

Given the growth and ethos of the challenger banks in portraying the plight of the consumer against the staid traditional banking services one would have thought these could be the White Knights of the overdrafts. However, maximising the 40% charge over their account base could prove to be too tempting for their venture capitalist owners, given they like to exit after 3 years with 3x return on the money they invested.

Hopefully the challenger banks stick with their stated ethos of new banking and breaking the status quo which millennials embraced along with their staff.

The winner?

Should the banks decide to invest some of this new income in data analytics and predictability, using both AI and staff for customer service, then the current account holders could be well served. Having a visual view of your cash flow, both current and historic, and the equivalent of AutoSergei for financial transactions can help people handle their financials much better than they do today. Banking digitally is going to be the key to bring money under control and making it work for you.

If all of us act with empathy during these unprecedented times, the quicker we’ll get through these unprecedented times.

Articles and Utube:

[1] The Sun, Helen Knapman, Digital consumer Editor, March 3rd, 2020

[2] Financial Conduct Authority confirm biggest shake-up to the overdraft market for a generation, 7 June 2019

[3] Simon Gompertz, BBC New, 3rd Feb 2020

[4] Wealthadvisor – advised investors outperform DYI investors, 15th May 2019

[5] MoneySense, we do look after the pennies, 3rd Feb 2020