Millions of middle-class families occasionally face the uncomfortable and expensive situation of temporarily running out of money.
Many of these families live paycheck to paycheck, and sometimes those paychecks are a few days late or a few dollars short. Indeed, almost half of all Americans report that they “either could not cover an emergency expense costing $400, or would cover it by selling something or borrowing money.” Living on the financial edge creates problems that those with a cushion never experience, including a large and often hidden cost: America’s slow payment system.
When you hit the zero-lower bound of your bank account, a tipping point occurs. Simply covering basic expenses of life — paying bills, childcare, or shopping for groceries for the weekend — can cause families to rack up hundreds of dollars in fees from bank overdrafts or late credit card payments. Some families may even require small, but expensive, small-dollar loans — also known as “payday” loans.
These fees add up. American families spend $15 billion a year in overdraft fees and an additional $9 billion in payday loans. Every payday loan involves someone with a bank account, as the loan is based on writing postdated checks for collateral. But what if I told you there is a solution to this problem as simple as having money instantly appear as fast as an email or text? It exists and here’s how we could do it.
When you deposit a check or your employer sends a “direct deposit,” you probably don’t think about how the payment system actually works. At one point the money just shows up. You may not realize that it can take up to five days for your money to be available for you to use; a “direct deposit” is not an instant one. In fact, depending on where you live and what time of day your employer sends the order, or you deposit the check, your funds can be caught in a byzantine payment system for days.
What does this mean? Imagine you deposit your paycheck, a child support payment, or some money you earned from a side job, on a Saturday morning and Monday is a holiday. Your money won’t be available until Tuesday at the earliest, more likely Wednesday or even until the following week, depending on how you make the deposit.
What if you have to pay your rent, daycare, or credit card? The obligations of real life are not as regularly scheduled as economists assume. And neither are the earnings of middle-class families. As the New York Times wrote, “Middle-income households, for example, saw their monthly expenses deviate by nearly $1,300, the equivalent of a month’s rent or mortgage payment.”
Slow payments are not a problem of technology. In a world where you can stream movies on the palm of your hand, surely a bank can take a picture of a deposited check and make your funds available immediately. In fact, this is the case throughout the world in countries like Japan, South Africa, Poland, and Mexico. England instituted real-time payments in 2007 when the first smartphones were introduced. In the U.S., smartphones let you deposit your check in an instant, but it still takes days for your money to be available. Yet in the U.S. if you really need the money immediately in your bank account, you can be forced to take the check to a check casher, paying a high fee to receive cash that can be deposited instantly. Check cashing fees are not just felt by those who are unbanked.
The Federal Reserve has the legal and regulatory responsibility to solve this problem. They also operate America’s largest (and increasingly slowest) payment system. The Fed recently concluded a working group on faster payments calling for real-time payments to be adopted by 2020, but failed to use its authority to mandate adoption for itself or others. That is a choice by the Fed that can be overridden by Congress or by leaders within the Fed.
The financial services industry is not sitting idly by. Although they currently benefit from the slow system by earning interest when the money is in transit, and on all those overdraft fees, some banks realize that they do not want to be the taxicabs ignoring Uber. Zelle, a new app backed by many of the largest banks, allows money to be transferred between accounts in real time. The Clearinghouse, a private payment system also owned by banks, is piloting a real-time payment system and preparing to allow all banks to participate by 2020. Visa is expanding its system to allow funds to be pushed through in real-time. Already you can move money faster through PayPal and Venmo, but uploading those funds can take time or fees to move quicker.
The purpose of the financial and payment systems are to empower people to live life more smoothly, not to turn small bumps into giant craters.
New financial technology firms are challenging the basic framework outside of banks. The company Even allows workers to access a portion of their paychecks from their employer before payday, with no loan or fees, assuming your employer provides the service. After all, you have already earned the money — why does your employer get to keep it for so long?
As the nature of work changes, more and more middle-class families are relying on multiple income sources, each of which can vary from time to time. Expenses, both planned and unplanned, do not always line up with income. The mismatch in timing can cause bumps in the road for middle-class families who are not fortunate enough to have a permanent cushion.
The purpose of the financial and payment systems are to empower people to live life more smoothly, not to turn small bumps into giant craters. The government’s role is to ensure that the financial system is working for middle-class families, not for its own sake. America’s payment system has failed that test. We can and must do better.