Over the last month, leading banks in India have announced charges on cash transactions made at branches beyond a particular frequency in a month.
The State Bank of India has also raised the monthly average balance requirement with a penalty for not maintaining a minimum balance in accounts.
Pricing of bank services is an issue which requires logic and transparency. It also needs to be fair to both the bank and the customer, and needs to be addressed as six inter-connected issues.
The Principle of a Charge on Cash Transactions
The guiding principle, just like other financial services, is that whatever costs a bank incurs, it must recover. While recovering these costs, the bank must ensure its pricing is transparent, and everyone must know how it has arrived at it. It cannot be arbitrary, and should be non-discriminatory.
A third principle is that some element of cross-subsidisation will always be there. But the cross-subsidisation should be by the rich for the poor.
What seems to be happening in financial services in general – and India in particular – is that the rich end up being cross-subsidised by the poor.
Competition, effective regulation and good consumer protection laws should, generally, take care of these three principles of pricing. But in India, instead of competition, we have financial repression. Regulation is more oriented towards protecting the interests of banks, rather than the customer.
The judicial system for consumer protection is time-consuming and does not have adequate safeguards to protect the interest of small and underprivileged consumers.
In fact, the entire environment in the financial sector is against the basic interest and fundamental rights of small customers.
It is no wonder then, that the central bank of the country moves the court with the contention that its view or stand on charges for financial services cannot be challenged in the court of law, even if people feel that some charges are arbitrary, discriminatory, and against the principle of natural justice!
Why are Banks Levying This Charge?
Curiously, banks have recently increased charges for cash transactions. If banks offer a logic saying ‘here are our reasons for levying this charge now, as we are recovering costs,’ is it that these costs were not being incurred earlier?
If banks say, ‘we are charging now to make cash transactions costlier,’ they must remember that this is not the bank’s job.
A customer may make any transaction through paper, digitally, or cash, and that remains the customer’s choice. Any charges a bank levies must be based solely on its costs, and its margins.
Taking that point further, in a cost-based pricing system, the fifth transaction made within the same month via an ATM should be cheaper than the fifth transaction at the same branch. Similarly, cash-handling charges should vary according to denomination of notes. Such charges should also be levied based on the number of pieces of notes, rather than the number of times a customer visits the branch.
If it is done as per government directives – to cut down the volume of cash transactions – then the government needs to create a facilitating framework by passing on the cost of production and distribution of cash notes on to the public, through banks. But this can be done only after creating a legal framework approved by Parliament for this purpose.
In any way, it cannot be the function of the bank to dictate to the customers not to carry out cash transactions by increasing the charges. And anyway, cash transactions cannot be reduced in the system by introducing arbitrary charges on them.
Calculating How Much to Charge
Banks are arriving at charges in an arbitrary manner, as they lack accurate data on costing. They honestly don’t know what each product or service costs them. Instead, they offer a total cost or a branch cost which is meaningless.
What we need from them is to know what the total transaction cost of the bank is, and how this total transaction cost of the bank is distributed among all services and product lines.
A well-run household breaks down how much it spends on each item, rather than just saying ‘oh we spend too much on food.’
Unfortunately, in the face of an item-wise check or audit, many won’t have any detail to show. In the absence of information about the cost of the bank, the pricing has become arbitrary and excessive, especially for the common consumer. This is true not only for cash transactions, but for all banking products and services, which has led to anarchy in pricing of banking services in India.
Generally, in a commercial system, competition should mitigate such anarchy. A shopkeeper who charges too much and does so in an arbitrary manner will get put out of business by someone whose pricing is fair. But that does not happen for banks, due to lack of competition.
Competition is inadequate partly because very few new licenses are given out, and new licenses have been handed out to players who lack the might to foster real competition and cause disruption in pricing for the established players.
Compare this to what has happened in telecom, where the newest player has brought in serious competition. If pricing in the banking system needs to be corrected via competition, it needs the entry of a large number of stronger players with deep pockets. The regulatory guidelines on licenses for new banks must be revamped for this purpose.
Who Acts to Check These Practices?
In a mature market, good regulation supported by an effective framework for consumer protection – as laid down in the OECD and G20 principles – should protect the consumer. This is the mandate that financial market regulators have around the world, and there has been a global failure on this. Hence, we see the creation of new regulatory bodies dedicated to protect the consumer of financial services.
In the UK, the Financial Conduct Authority is separate from the Bank of England’s Prudential Regulation Authority. In the US, the Dodd-Frank Act led to the creation of a Consumer Financial Protection Bureau. Twin peak regulation is an integral part of the regulatory system in Australia and South Africa as well.
The second aspect of protecting the interest of the consumer against inappropriate or excessive pricing is imposition of penalties on banks for not following a rational, transparent and non-discriminatory pricing framework. Banks in Europe and the US and other markets have paid billions of dollars in fines, for a wide range of transgressions of regulatory guidelines, having exploited customers by
- misselling of financial product and services,
- excessive pricing,
- rigging of the exchange/interest rate.
But in India, where do you see a case brought by the regulator against any bank?
This is so even when the floating interest rate mechanism as determined by the prime lending rate (PLR) and base rate (BR) structure has become a matter of ridicule, by making the floating rate different for new and old customers.
An aggrieved customer, who turns to the consumer court, finds our legal system expensive and time-consuming. Also, courts have less appreciation about the issues of rational, transparent, and non-discriminatory pricing, which is generally covered up under the guise of commercial contracts.
The fact that is overlooked by society is, in the absence of a strong regulatory framework, most legal contracts between financial institutions and individual customers are one-sided in nature and hence void in law.
A Flat Fee is Unfair to the Poor
A bank has decided to allow four free cash transactions a month to its customers, and charge a minimum of Rs 50 from the fifth. One customer goes to the bank and makes four deposits in the range of Rs 45,000 each. That customer will not be charged anything.
Another customer deposits Rs 50 on four occasions, and deposits Rs 50,000 on the fifth, and will be charged Rs 150 on that. Is it fair? Even if the last transaction is of Rs 50 by the same customer, he will be charged Rs 150! How wonderful is this logic?
A flat charge without any cost-based pricing framework generally punishes the smaller and under-privileged customer.
Charging for Not Maintaining Minimum Balance: Is This Fair?
The present regulation bars charges being levied on no-frills or Jan-Dhan accounts for breach of any minimum balance, up to any number of deposits and four withdrawals in a month. Then how can banks levy a charge for other categories of accounts?
The charge for not maintaining a minimum balance is illogical in any mature market. This is totally unjust and unfair in a country where the government and the regulator have carried out an intensive campaign for financial inclusion and covering everybody with a bank account.
In a developed market where a bank account is a fundamental right, or it has been made available to all, some minimum basic services are assured free of cost. For additional value-added services, there will be a minimum balance stipulation.
Accounts will generally be sorted in a hierarchy of value added-services provided, and for each category of accounts, there will be a separate minimum balance stipulation.
But once a minimum balance level for a particular category of account is breached, the customer will not be charged for it. Instead, the account will be downgraded to a lower category, with a lower minimum balance stipulation, and a lower level of services.
Ultimately, the account may transit to a basic one, for which there is anyway no stipulation for a minimum balance. The same procedure should be followed in India as well, and everybody should have a right to a no-frills account, where the RBI stipulates no minimum balance, and where transaction charges are regulated.
Stipulating charges for not maintaining a minimum balance can lead to a situation where the banks keep charging the account till the balance is brought to zero. Actions like these are illegal.
Unclaimed deposit is, by law, sovereign (crown) property. If due to non-maintenance of minimum balance, the banks continue to charge a fee to bring down the balance to zero, they are indirectly appropriating sovereign resources.
No amount in the deposit account can be appropriated by banks by levying irrational and unwarranted charges. It is better that they close the account and remit the money to the customer, once the minimum balance is breached.
The pricing of products and services by financial intermediaries has a critical role in increasing the economy’s growth rate, and making it more inclusive.
Irrational, non-transparent, discriminatory, and excessive pricing of products of financial services makes the financial intermediation, and payment and settlement system operationally inefficient. This, in turn, adversely affects the productivity and efficiency of the real sectors of the economy. Hence, issues of pricing of banking and financial services can no longer be pushed under the carpet.
We need to have a healthy debate across a large cross-section of society on all the issues discussed above, and create a strong regulatory and legal framework for consumer protection, while evolving rational, transparent and non-discriminatory pricing system for financial services. This will accelerate the growth process and reduce the income inequality prevalent in our society.
(KC Chakrabarty was deputy governor of the Reserve Bank of India from 2009 to 2014, and before that, the chairman of Punjab National Bank. The views expressed above are the author’s own. The Quint neither endorses nor is responsible for the same.)
(This article was originally published on BloombergQuint.)