Are Banks’ Revenue Streams Shifting to Fee-based Services?

Banking industries across the world are widening their revenue sources in multiple areas, which include interest-bearing business and fee-based services. Banks are now even more focused on fee-based business than interest-bearing investments.

Although banks in the USA have been in the leading position of diversifying their revenue-earning avenues for a long time, they now tend to follow the approach of maximising revenues from fee-based products. Some large US banks are even making efforts acquire service-providing companies so that they can utilise the latters’ facilities and maximise their fee-based income.

In the USA, banks cannot realise fees as they wish because there is a law limiting the fees banks earn on customers’ debit card uses. Besides, while providing card-based services, intermediary companies get involved as their infrastructural facility is used by the banks to facilitate processing payments so that capital expenditure can be kept minimal.

A few years back, one medium-sized bank in the USA, Capital One, bought “Digital Financial” at $50.6 billion, which allowed them to get an established network to avoid third-party intermediary services in card transactions.

Because of this network facility, Capital One has been able to directly deal with their customers, which increases their fee-based income. Because part of the fee usually taken by the middleman also comes to the bank’s earnings, and the cap on charging fees on debit card transactions does not apply if there is no third-party involvement. Capital One’s such a move has opened the scope for many large banks in the USA.

Some big banks in the US, including JPMorgan Chase, Bank of America, Wells Fargo and PNC Financial Service Group, are now trying to own service-providing companies so that third-party service charges and legal requirements of capping thereon can be avoided. Media reports reveal that these banks have already made good headway towards acquiring a company, “Fiserv”, which is a financial technology company engaged in providing network services.

Fiserv plays the bridging role between the industry players and the merchants, of which the former include banks and financial institutions offering debit card facilities, while the latter include merchants engaged in selling goods and services in exchange for accepting payment through debit cards. 

The Dodd-Frank Act, passed in 2010 immediately after the financial meltdown resulting from subprime mortgage busting, places a cap on certain fees large banks collect from merchants on debit-card transactions if those are routed through an outside network. Alternatively, banks can avoid this cap limit if they own the network, which is known as an infrastructural facility required for processing transactions.

It is worth mentioning that fees charged on debit-card transactions amount to billions of dollars every year across the industry, but the banking sector, mostly large banks in the US, has been complaining that their revenue from fee-based business has been limited due to this act.

These fees, commonly known as ‘interchange fees’, are payable to the banks and financial institutions that issue debit cards by the merchants if they sell goods and services, receiving payment through a debit card. The Dodd-Frank Act has given the authority to the Federal Reserve to set caps for banks and financial institutions which have assets of $10 billion and more.

Banks have been opposing this cap on fees because they argue that the part of fees realised on debit cards also helps them recover the cost associated with free checking accounts and debit-card rewards programmes, which attracts customers to the banking services. Against these interchange fees, there is a counterargument that merchants do not pay this fee from their own source but rather load it onto the price of goods and services to pass on to the customers, which eventually contributes to price hikes.

However, such move to avoid a cap on the interchange fee by avoiding a legal requirement may not be an easy task for a bank, as this may result in a tussle with the government and regulator.

Banks’ focus has shifted from interest-bearing business to fee-based services for many reasons. A fee-based business has very minimal default risk. Funding involvement is also much less in offering fee-based services. The capital requirement for a fee-based business is not as big as for an interest-bearing business, which mostly includes loans and advances.

Moreover, many fee-based businesses are categorised as off-balance sheet items, so banks’ financial health is found more stable and sustainable. Banks in the USA are pioneers in rising fee-based business for which they negotiate, deal with government and take measures. Even banks in Singapore, Hong Kong, China, Vietnam, the Philippines, and Indonesia are now very active in expanding fee-based operations.

Feed-based service is not new at all in our country’s banking industry, because foreign banks and even some private banks offer fee-based products, but the scope is very limited, and fees are charged in a very haphazard way. It is true that our banking sectors must undergo complete overhauling and streamlining, the measure of which should include widening as well as standardising banks’ fee-based operation. However, when this measure will start is not known to us.

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The writer is a certified anti-money laundering specialist and banker based in Toronto, Canada. He can be reached at [email protected]