Finance on the Fringe

America's check cashers don't exploit the poor; they serve them.

Michael W. Lynch from the April 2002 issue

(Page 3 of 4)

"You don't have to be too smart to open up a check cashing store," says U.S. PIRG's Edmund Mierzwinski, who calls banks "greedy" and doesn't believe that banks and check cashers operate different businesses. "There are tremendous opportunities at the margins that banks have left for these guys to make a lot of money preying on the poor."

Testifying last June before the House Committee on Financial Services, Margot Saunders, managing attorney at the National Consumer Law Center, pulled out all the rhetorical stops. She was inveighing against allowing check cashers to participate in the Treasury Department's Electronic Funds Transfer program, which seeks to provide direct deposit accounts for federal employees and benefit recipients. Saunders talked of how "unbanked individuals have been sucked into the underworld of check cashers," and of "captive customers" who are "unsophisticated, often illiterate." She decried "financial apartheid."

"Already," she said, "upper- and middle-income Americans enjoy the safety and convenience of a highly regulated banking industry that provides competitive prices and is closely supervised to limit improper activities....Many poor people, on the other hand, are relegated to fringe bankers who are unregulated, unsupervised, and routinely charge exorbitant rates in the uncompetitive financial services market that exists in the low-income community."

This view is common, self-contradictory, and belied by reality. The financial service arena isn't segregated; it's richly diverse. Banks may be safe and convenient for upper- and middle-income Americans, who get paid regularly with direct deposit, pay their bills with checks, and move infrequently. But that doesn't mean banks are convenient for everyone, especially folks who work odd hours, have erratic incomes, and need access to their money as soon as they earn it.

In any case, even middle- and upper-income Americans have been purchasing financial services at places other than banks for years. "When the Community Reinvestment Act took effect [in the late 1970s], roughly two-thirds of Americans' long term savings were in CRA-covered institutions [i.e., banks or savings and loans]," notes Michael A. Stegman in his 1999 book Savings for the Poor: The Hidden Benefits of Electronic Banking. "Today," says Stegman, a former Clinton administration official who heads the Center for Community Capitalism in the Kenan Institute of Private Enterprise at the University of North Carolina, "less than 30 percent are, and the migration from the conventional banking system to mutual funds, money market accounts, and other savings vehicles outside of CRA continues un-abated."

In other words, it's not just people who don't earn a lot of money who are purchasing financial services more tailored to their needs. Swarthmore economist John P. Caskey, who coined the term "fringe banks," notes that upscale private banking, personalized financial advice and execution for the wealthy, boomed in the 1980s along with check cashers. "Just as people at the high end of the income distribution have financial needs that banks find better to meet in a specialized office or branch of the bank, people at the low end have specialized needs," says Caskey, author of the 1994 book Fringe Banking: Check-Cashing Outlets, Pawnshops, and the Poor. "You can think of check cashing outlets as tailoring services to meet those needs."

Bank Failure

So why don't low-income people choose to purchase their services from conventional banks?

They aren't physically excluded from banks. Nor are branch offices hard to find, as many charge. Every non-agenda-driven study on the issue shows that most check cashers operate close to banks. According to the Federal Reserve Board in its most recent Survey of Consumer Finances, a mere 1.2 percent of the unbanked say that lack of convenient hours or locations is what keeps them from opening a checking account. A 1999 study by the Federal Reserve Bank of Boston found that in New England banks outnumber check cashers in the areas they both serve. A 1998 Federal Reserve Bank of New York study of New York City found that 71 percent of check cashers share a zip code with at least one bank and 19 percent coexist with more than 10 bank branches. "You could put 1,000 bank branches in low-income areas, and check cashers would still thrive," says Swarthmore's Caskey.

Clearly, it's not because check cashers don't face competition. Rather, their customers conclude that they not only are more convenient and offer more services but are less expensive to boot. This must surely come as a surprise to activists, who often paint check cashers as just one notch up from loan sharks.

Reform-minded studies of what it costs to be unbanked are typically abstract accounting exercises that conflate being unbanked with being dependent on check cashers -- and being "banked" with paying only the minimum monthly fees with no bounced-check or ATM fees (an unrealistic assumption, even for the middle class). For example, a 2001 Fannie Mae Foundation study claims that "fringe services for cash conversion and bill paying would cost an average $20,000-income household between $86 and $500 a year, while the same services at a bank would cost only $30 to $60." A 1997 study by the Consumer Federation of America, which works closely with U.S. PIRG and the National Consumer Law Center, found that the annual cost of cashing a $320 weekly paycheck ranged from $160 to $960. And a 1999 report by the Massachusetts Division of Banks claims that individuals pay 3.3 to 40.8 times as much to turn checks into cash at a check casher than they would at a bank offering low-cost checking accounts.

But when less myopic researchers actually talk to the people who don't purchase any financial services from banks, they find that the unbanked spend very little to turn their checks into cash. Constance R. Dunham, a senior economist at the Office of the Comptroller of the Currency, the federal bank regulator, conducted two massive field studies of New York City and Los Angeles. To her surprise, Dunham found that two out of three unbanked individuals paid nothing to get cash. They either had no income, were paid in cash, cashed their checks for free at a supermarket or at the bank that issued the check, or had a friend or relative cash their checks. A mere 11 percent of the unbanked spent more than $100 a year to cash checks. Add in costs for money orders and bill payments -- the other service a checking account provides -- and a whopping 17 percent of the unbanked spend more than $100 a year on financial services.

Given that the break-even point for banks is roughly $100 a year per account, it's hardly a mystery that banks don't aggressively market to the small percentage of Americans who don't already buy their services. "The survey suggests that many people may be unbanked, not because they face barriers to obtaining bank accounts," concludes Dunham, "but because they can better economize on the costs of financial services without having a bank account."

First Bank of Sisyphus

This point hasn't fully sunk in with policy advocates, who work D.C. hours to bring "universal" banking to America. They have wielded a variety of policy tools over the years, none with much success. The big club on the supply side is the 1977 Community Reinvestment Act, which compels federally insured banks to operate in unprofitable low-income neighborhoods. But physical access just isn't a problem.