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Does a banking license provide an exclusive on banking?

Clearly, to be a deposit taking bank and offer products like Mortgages, loans, savings accounts and so forth, it would be easier to have a bank charter. However, today the lines between banks and non-banks offering financial services is blurring faster than speculative investors dumping shares for Facebook.

There are many types of ‘banks’ or organizations that use the word ‘bank’ to describe their business activities such as Photo Banks, Seed banks, Sperm Bank, DNA bank, Blood Bank. There are also organizations that use the word bank in their name for other reasons like the “Bank Restaurant” in Minneapolis, JoS. A. Bank Clothiers and others. JoS. A. Bank offers a Pre-paid Gift Card program for individuals and corporates that has the name “Bank” in it’s offering, but isn’t regulated by industry.Bank Freedom, from Irvine California, offers a pre-paid Mastercard Debit Card but isn’t regulated as a bank.

Despite some claims to the contrary, it isn’t actually illegal to call yourself a ‘bank’ or have ‘bank’ in a tradename. In some states in the US, you might have difficulty incorporating yourself as a “Bank” if you have bank in the name of your company and you’re intending on offering financial services. But then again CIticorp, JP Morgan Chase, HSBC and others don’t actually have “Bank” in their holding company name. You don’t need the name ‘bank’ in your name to be licensed as a bank, and having the name ‘bank’ doesn’t force you to be a chartered bank either.

Then there are the likes of iTunes, PayPal, Dwolla, Venmo, Walmart, Oyster card in the UK, Octopus in Hong Kong, and the myriad of telecoms companys who offer pre-paid contracts, who regularly take deposits without the requirement of a banking license. In some markets, this has resulted in a subsidiary ‘e-Money’ or basic deposit taking licensing structure, but these organizations do not have the restrictions, regulations or requirements faced by a chartered bank. For more than 7 million Americans, 11 million Chinese and many others, their basic day-to-day method of payment in the retail environment is a pre-paid Debit Card (sometimes called a “general purpose reloadable” card). The pre-paid market is expect to reach an incredible $791 billion in the US alone by 2014.

When a bank account is not offered by a bank
What’s the difference between a prep-paid debit card account in the US and a demand deposit account from a chartered bank? Both can be used for online commerce and at the point-of-sale. Both can be used to withdraw cash from an ATM machine. Both allow cash deposits to be made at physical locations. Both can receive direct deposit payments like a salary payment from your employer. Often pre-paid debit cards can offer interest on savings also. So what can’t a pre-paid card do that a typical deposit account can?

Most prepaid cards don’t allow you to write cheques (or checks), deposit more than a few times a month, keep a balance in excess of $10,000, make transfers/payments that exceed $5,000 per day, and/or going into the red with an overdraft facility.

For many customers who use pre-paid debit cards, these are not restrictions at all – and thus the card represents an alternative to a typical bank account from a chartered bank. Behind the program managers of pre-paid cards there is an issuing bank with an FDIC license in the US, but the program manager is not regulated as a bank. That nuance may be lost on some, but for the customer they are generally completely unaware that there is a “bank” behind the card – they simply see the program manager as the ‘bank’ or the card as a ‘bank account’ based on the utility provided by the product.

Today PayPal, Dwolla, Venmo and others offer the ability to transfer money via P2P technologies that mimic the likes of the ACH and Giro networks. I think it is fair to say that no one considers these organizations to be ‘banks’, but until recently (certainly prior to the Internet) we would have considered the activity of these businesses to be “banking”. Now you could argue that PayPal is more like a WesternUnion than a Bank of America, but the point is that these organizations are increasingly attacking traditional ‘bank’ functionality.

Then you have P2P lenders who in the US have offered more than $1 billion in loans since 2006, despite not having banking licenses.

If only ‘banks’ did banking…
Today banking is not restricted to those with banking licenses. Banks no longer have an exclusive on the business of banking. If they did PayPal, iTunes, Dwolla, and the myriad of prepaid debit cards would be illegal. They are not. If they did, you couldn’t deposit money on your prepaid telephone contract without visiting a bank branch. If they did, you couldn’t send money to a friend without a bank BSB, sort code or routing number.

The assumption that only banks can do banking is a dangerous one, why? Because often, like any other industry suffering from competitive disruption, the only thing that forces positive change on an industry mired in regulation and tradition are competitive forces. Sometimes those forces result in the complete disruption of the industry (see Telegraph versus Telecoms), other times it results in fragmentation.

Are there banks who don’t have banking licenses? There are hundreds of organizations today that are doing banking activities that don’t have bank charters or licenses. Can they call themselves a bank? Some do, but they obviously don’t need to in order to offer banking-type products and services, and those that do generally have a regulated bank charter behind them through a partner. Like Post Offices around the world that offer a place to pay your bills or deposit money on behalf of a regulated bank, this activity is not illegal, nor does it require regulation. Why? Because the partner bank who has a charter is responsible for ensuring their agents and partners stay compliant within the legal framework

The activity of ‘banking’ is going to become a lot less defined, owned or identifiable in the next few years as many non-banks start infringing on the traditional activities of banking, and as banks are forced to collaborate more and more to get their products and services into the hands of consumers. While we still have banks doing the heavy lifting, much of the basic day-to-day activities of banking will become purely functional and will be measured by consumers on the utility of that functionality, rather than the underlying regulation of the company or institution that provides it. Thus, customers won’t really care if a bank is at the front end or what it’s called; just that they can get access to banking safely, conveniently and securely.

What will regulators have to say about this? Well that’s an entirely different matter.

Bank Freedom a bank account alternative, although not a bank
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Comments: (7)

A Finextra member
A Finextra member 04 June, 2012, 08:56Be the first to give this comment the thumbs up 0 likes

I understand and agree the general point here to beware of various competitors to the banking space, but I wonder if the assertation that it's not illegal to call yourself a bank is just designed to get some comments like this - but I will rise to the bait.

Certainly, as you would be aware, in Australia, banking is a reserved word, specifically:

Under section 66 of the Australian Banking Act, a person is restricted from using or assuming the words ‘bank’, ‘banker’ and ‘banking’ (the restricted words) in relation to a financial business unless APRA has granted either an exemption under subsection 11(1) of the Act or consent under subsection 66(1)(d).

And while people can use pre-paid cards etc to carry out banklike activities, this is only under an exemption relating to under  $10m under management or 10,000 customers - then you have to get a license (even this can be at a specailised level and still may not make you a bank) from the regulator. 

While I'm not a participant in the US system, it is relatively quick to determine that states like California bar the use of the word, eg:

"Limited Liability Company Names Only:

The name of a limited liability company may not include the words "bank," "trust,""trustee," "incorporated," "inc.," "corporation," or "corp." (California Corporations Code section 17052(d).)" Business Entity Name Regulations  (Effective May 14, 2009)

and apparently 37 states have a similar clause and your town of New York is clear on what it needs to be allowed a bank charter

"To enhance the likelihood of success of a proposed new bank or
trust company, the Banking Board requires:(a) the employment of top management personnel having substantial and satisfactory experience in general commercial bank operations, if the proposed institution will offer significant banking services;(b) if a trust company is to be chartered, the employment of top management personnel having substantial and satisfactory experience in fiduciary operations;(c) insurance of deposits by the Federal Deposit Insurance Corporation; and(d) capital funds of not less than $1.2 million."  (from OFFICIAL COMPILATION OF CODES, RULES AND REGULATIONS OF THE STATE OF NEW YORK 3 CRR-NY SP CB
1.2 )

Which I agree seems light on compared to the $50M you need in capital to kick off an Australian Bank - but its New York where dreams are made...

So I do wonder about the US system, I recognise there is great fragmentation but there would seem to be a general level of legislative concern over the use of the banking word, and plenty of room for a regulator to be concerned over misrepresentation around being a bank.

So I do hope you have had good advice on movenbank

The Bank word (in all market testing I've seen) holds a lot of trust as people expect levels of security, capital and fiduciary care that they may not expect from others. 

Doesn't mean your overall point isn't valid, but it would be dangerous for people to think PayPal or Dwolla have the same level of regulatory oversight and control that the use of the word 'Bank' implies and we should try and ensure that this word still means 'trust'.

Cheers,

 

Brent

Brett King
Brett King - Moven - New York 04 June, 2012, 16:06Be the first to give this comment the thumbs up 0 likes

Brent,

Understood, but that doesn't restrict non-banks from using the word bank in tradenames or product names. Use of bank in a tradename is perfectly legal, particularly if it is descriptive or defining an action.

The company name is not a big issue - as I mentioned most banks don't have "bank" in their company name either.

BK 

Ketharaman Swaminathan
Ketharaman Swaminathan - GTM360 Marketing Solutions - Pune 06 June, 2012, 13:04Be the first to give this comment the thumbs up 0 likes

Regulators have already started jumping into the fray to regulate nonbank financial services providers. PayPal became regulated in India around two years ago. It has recently come under the provisions of Durbin Amendment in the USA. Mobile prepaid wallets like Airtel Money are already subject to painful KYC rules in India. According to this Fed article, GPR prepaid cards have recently come under the radar of the new consumer protection agency CFPB in the US.

While prepaid programs have an underlying FDIC-insured bank, cardholders' prepaid accounts are not mapped into bank accounts. As a result, cardholders' credit balances are not always protected by the underlying bank's FDIC insurance.  

As people begin to understand the hidden costs and terms involved in nonbank prepaid cards - aided by initiatives like "Ask CFPB: Prepaid Cards", no doubt - they might realize that the average bank account is cheaper and safer than the average prepaid card. When that happens, the market share of prepaid cards, which even now is only a "relatively small piece of the overall pie of preferred retail payment types", is likely to drop even further. Add to that the friction that will inevitably follow regulation, prepaid cards and mobile wallets are in for a rough ride.

Brett King
Brett King - Moven - New York 06 June, 2012, 15:31Be the first to give this comment the thumbs up 0 likes

Ketharaman,

In qualitative research done around PayPal and Pre-Paid Debit Card, the primary thing that comes to the fore in customers explaining why they utilize these services over traditional financial services are terms like "Simple", "Easy", "Fast", etc.

This is not a pricing decision. This is a friction decision. Traditional players are hopelessly out-gunned on this front and until there is significant reform in the processes around customer engagement, they will lose out to organizations more in touch with customer behavior.

BK

Ketharaman Swaminathan
Ketharaman Swaminathan - GTM360 Marketing Solutions - Pune 06 June, 2012, 16:49Be the first to give this comment the thumbs up 0 likes

@BrettK:

I can partially accept the simple-easy-fast value proposition only for PayPal. With PayPal coming under regulatory scrutiny, it remains to be seen how long it can retain this differentiator. While on this subject, let's not forget a less acknowledged fact that only the beneficiary of a PayPal payment needs a PayPal account. A sizable chunk of PayPal volumes comes from payors who don't even have a PayPal account and who make payments with their regular bank-issued credit / debit cards.

I fail to see how paying with a nonbank-issued GPR prepaid card is any simpler, easier and faster than paying with a bank-issued credit / debit card. According to the research I've come across, GPR is coming under regulator scrutiny only because its customers feel increasingly cheated by its hidden fees and fine print.

Brett King
Brett King - Moven - New York 06 June, 2012, 19:16Be the first to give this comment the thumbs up 0 likes

Ketharaman,

It's not the 'paying' with the GPR, it's the application/onboarding process. This is where the friction is. Same is true for Square's success in North America where they went after friction in onboarding merchants. Same for PayPal with P2P. Same for Lending Club and Prosper on loans...

The problem for the existing industry is the hoops I have to jump through to just become a basic customer. This is ultimately the biggest risk and it is just process stupidity. Why do I say that? Because when I have a customer of 15 years that I start putting more and more forms in front of him despite the length of his relationship in the name of 'risk mitigation' and compliance. What it actually means is I'm going to disregard everything I know or have learned about this customer over the last 15 years in favor of a black-box process that reduces risk based on a fixed data set I need at this one point in time. Instead of doing the analysis on the data I already have, I'm collecting all the data anew to assess this customer's risk. 

Or in the case of basic account onboarding - I'm collecting all the data I'll need for not just a basic account opening, but also for basic credit decisioning, when most of the data is redundant unless I grow the relationship. Instead of a gradual approach to data collection, I put it all on the customer at one point in time....

FRICTION due to inertia is the killer here, and banks have a massive proliferation of friction.

BK

BK

Ketharaman Swaminathan
Ketharaman Swaminathan - GTM360 Marketing Solutions - Pune 07 June, 2012, 08:58Be the first to give this comment the thumbs up 0 likes

@BrettK:

Thank you for clarifying. I fully agree re. problems of friction in various banking processes including application / onboarding. 

However, I think overall friction with nonbanks will only increase as they come under greater regulatory scrutiny. When it comes to deflecting blame for friction to regulations, I don't expect nonbanks to be any better than banks. In fact, since they're new to dealing with banking regulations, nonbanks could be worse than banks. I can cite PayPal's frequent freezes of merchant accounts as an example for this tendency. 

Talking specifically of application / onboarding, I hope the recent launch of Airtel Money (mobile wallet from the leading MNO in India and Africa) is not an indication of the extreme degree of friction we can expect to see from nonbanks going forward. Within one week of launch, there were three different product reconfigurations, sudden introduction of KYC, cooling period of 7 days before service activation, etc. Let me refer you to this FT article for more insights. 

Mobile money: Kenya good, India bad

Much as I personally hate friction in the onboarding process, my personal experience tells me that people have a short memory. Six months down the line, when high costs start eroding their prepaid card credit balances, I don't expect cardholders to forgive program managers for having given them such a wonderful onboarding experience a half year previously. Instead, I expect them to go and complain about their hidden fees and dodgy fineprint to some consumer protection agency - as they've already started doing.

Brett King

Brett King

CEO & Founder

Moven

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This post is from a series of posts in the group:

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