A Place for Non-Standard Banking Services

Having an open mind for non-standard banking services like check cashing and payday loans has left me in a minority whenever related issues come up in Rhode Island.  Writing for The Simple Dollar, Trent Hamm provides a good explanation for joining that minority.  He cites research from University of Pennsylvania professor Lisa Servon:

The prevailing wisdom from bankers and policy makers went like this: People who used alternative financial services — like check cashers and payday lenders — were making expensive and unwise decisions. If we could just educate the ‘unbanked’ and ‘underbanked’ and usher them into the modern financial system with a bank account, their fortunes would surely improve.

‘It felt like the only way I could answer this question: If alternative financial service providers are so bad — if they’re so predatory and so sleazy and so much in the business of taking advantage of people — why are people using them in growing numbers?’ Servon said.

Hamm sums the decision as this: “check-cashing service offers all of the services of a bank that don’t require extending trust to the customer; instead, all of the transactions are done over the counter for a clear fee.”  Payday loans could fit in that category, as well.

When my family was younger and living paycheck to paycheck (barely), we would get caught in vicious cycles at our regular bank that felt pretty predatory.  If a check cleared a minute after an expense came in, we would be hit with a fee that was bigger than the margin we had for error.  Sometimes, this would cascade into multiple fees in a row before we’d even been notified of the problem.  The fact that these fees were charged on the back end rather than as a condition of making a transaction was part of the problem.

It’s interesting to think through the dynamics of these à la carte services to answer the question of fairness.  Imagine somebody in an area starts offering check cashing services.  Since such businesses are typically giving cash upfront, the owner has to assume that some percentage of checks will be bad and charge a premium to cover that risk.  If the charge is higher than the risk itself justifies, then some other company could easily undercut the business by charging less.  If no competitors emerge, then that tells us something about the value of this business doing it in an area in which nobody else will.

All of this applies as long as government doesn’t get involved, at which point, it will distort the market, either by subsidizing a competitor or suppressing competition.

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