Bank fees and the free market

Pity the poor megabanks. One minute the federal government was pumping money onto their balance sheets to rescue them from the calamitous failure of Lehman Bros., the next it was draining billions of dollars from their revenues by slashing the fees they collected from customers for overdrafts and from retailers for debit-card transactions. Some banks are responding with new fees for services that used to be free, such as checking accounts and debit-card purchases. Bank of America, for example, plans to charge customers $5 in any month they use their debit cards to make even a single purchase.

The fees have drawn denunciations not just of the banks but of Congress and federal regulators for actually, well, regulating. According to the latter critique, Washington’s crackdown on fees it didn’t like simply drove banks to seek other ways to profit. But that’s missing a more fundamental point. Although the new fees are about as welcome as a throbbing headache, they are far easier to spot and avoid than the ones they replaced.

Ideally, a market as competitive as financial services will reward the banks that offer consumers the most value. But as banks have come to derive more of their profits from fees rather than loans and other investments, they have become increasingly skilled at imposing fees their customers can’t see or avoid. A good example is the overdraft charges that were collected from people who unwittingly overdrew their accounts with their debit cards, with no notice given by the bank. Another is the “interchange” fees that banks extracted, through Visa and MasterCard, from retailers for debit-card purchases. Retailers often passed those costs on to consumers in the form of higher prices. That’s why Congress and the Federal Reserve stepped in.

The Federal Reserve cut interchange charges in half, but banks still stand to make a tidy profit from them. Thus, the new fees on debit-card users are a means to profit more off of customers who, let’s face it, cost banks less than those who write dozens of checks. That’s the banks’ prerogative. But at least customers can see this fee, and can avoid it if they choose to. For instance, they could pay with cash, a credit card or one of several online services that transfer funds electronically.

If the market works as it should, consumers will shift their money away from banks that impose excessive fees, and banks will respond by being more open and reasonable about their charges. If not, regulators can and should continue pushing for transparency and choice.