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Overdraft Fees and Price Elasticity

From: "Overdraft Fees and Price Elasticity", Financial Marketing Insights, Steve Topper, 3/3/10

I’ve been convinced for some time that a majority of bank marketers either have little or no familiarity with the economic concept of price elasticity or simply choose to ignore it.

And the same is most likely true about anyone working for a bank or credit union who’s involved in making or approving pricing decisions.

The proof of my long-held belief can be found in the ridiculously high overdraft fees charged by most financial institutions.

For as long as I can remember, as a former bank marketer I was tilting at windmills as I periodically pleaded with those in charge of pricing to lower the price the bank charged per overdraft to the $12 - $15 range.

I couldn’t even convince them to at least test this seemingly palatable fee.

After all, it had been in this range for a very long time before the fee greed mentality set in sometime in the 1980s.

For those readers unfamiliar with price elasticity, the economic concept is that every product, service, and fee has its own elasticity of demand curve based on price. Or stated another way, price elasticity measures the sensitivity of demand changes to price changes.

For example, because it’s a necessity for most consumers, the demand for and use of gasoline is fairly price inelastic in a wide range of prices. But, at some point – let’s say $4 a gallon – consumers will start to use less gasoline. At this point, price elasticity sets in and as the price continues to rise, the demand continues to fall.

At issue here it the price elasticity of overdraft fees.

It has always been my contention that there is significant price elasticity to the overdraft or NSF fee.

A lower fee results in a greater number of overdrafts while a higher fee results in a fewer number of overdrafts.

In layman’s terms, a $12 overdraft fee seems reasonable and results in fewer customers seeking a fee waiver. On the other hand, a $35 overdraft fee seems draconian. Such a high fee not only causes some customers to be more diligent about avoiding an overdraft situation, it also results in many more complaints and requests for a fee waiver.

Of course, making the situation worse today is the cascading of NFS fees resulting from punitive item processing arrangements such as processing withdrawals before deposits and processing the largest withdrawals first.

This latter issue is already being addressed by some of the mega banks and hopefully will trickle down to all banks involved in this behavior.

In the meantime, it is critical that all banks and credit unions revisit the basic overdraft fee amount assessed.

Apparently, this fee reassessment has already begun.

Needless to say, I was thrilled to read the article, “ING banks on luring consumers fed up with paying big overdraft fees to rivals,” which appeared the March 1, 2010 copy of Advertising Age arriving yesterday.

What really caught my attention was the information provided by well-known banking expert Michael Moebs, CEO of Moebs Services.

Under the bold subhead “FEE CUT A POSSIBILITY,” Moebs shared information on the results of a large regional bank in the South that took his advice and lowered its overdraft fee from $24 down to $12. According to Moebs, the bank had increased overdraft revenue by 16% by the end of the year.

Mind you, a $24 fee is already low by industry standards where the average fee charged by the mega-banks is $35.

Most banks and credit unions would have refused to lower their overdraft fee to $12.

In effect, by charging 50% less, the bank actually generated more revenue.

This demonstrates the price elasticity of overdraft fees.

The lower the fee, the more likely the consumer will overdraft and gladly pay the $12 fee without complaining or calling to beg for a waiver.

What is the price elasticity of your bank’s NSF fees? At what level will your customers opt-in or opt-out under the new Reg E legislation?

What is the NSF Sweet Spot – the fee price point that will deliver optimal NSF income?

These answers and many more will soon be available if you participate in the ACTON Market Intelligence study, “Debit Card Overdraft Disclosure & Opt In.” You can learn more details and sign-up now by clicking over to www.actonfs.com/AMI_BuyNow.aspx.

Now is the perfect time to become reacquainted with the economic concept of price elasticity of demand.

It could mean the difference between success and failure with your forthcoming opt-in solicitations.

Written By: rnybeck
Date Posted: 4/1/2010
Number of Views: 2422

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