The Lie Banks Use To Protect Late-Fee Profits

Hal Singer at Lever News wrote a commentary explaining how banks (mostly) are upset with the Consumer Financial Protection Bureau capping credit card late fees at $8. One would think this covers every bank. It does not and only covers banks with more than 1 million card holders. Any bank or organization with less customers can avoid the new rule. And of course there are other exceptions.

The new rule takes effect sixty days after being posted in the Federal Registry.


Corporations and or banks believe they’re entitled to sky-high profits, and it’s destroying the economy.

In February, the Consumer Financial Protection Bureau proposed capping credit card late fees costing   consumers an estimated $14 billion annually. The president of the Consumer Bankers Association Lindsey Johnson asserted a fallacy having no backup:

“[T]his is going to increase costs, and it’s going to reduce access to credit. It just is.”

Angry Bear has a different president for the American Bankers Association and Rob Nichols, President and CEO of the ABA also released a much longer statement about the CFPB’s new rule. In brief . . .

“Today’s flawed final rule will not only reduce competition and increase the cost of credit, but will also result in more late payments, higher debt, lower credit scores and reduced credit access for those who need it most. The Bureau’s misguided decision to cap credit card late fees at a level far below banks’ actual costs will force card issuers to reduce credit lines, tighten standards for new accounts and raise APRs for all consumers – even those who pay on time.”

The $8 cap went into effect earlier this month.

In other words, Johnson was asserting banks will find a way to replicate the profits from today’s hidden or abusive fees indefinitely. Nothing can be done to change this from happening. Changes only force them to seek profit elsewhere. It is called profit predestination.

This pseudo-economic theory fails for myriad reasons. 

First, no company is morally entitled to a predetermined level of profits. If the source of a company’s profits is a violation of antitrust, consumer protection, unfair pricing, or labor law, then disgorgement of those ill-gotten profits restores consumers or workers to their rightful place absent the violation. That is the end of the story.

Second, a threat to raise the price of a related service in retaliation to some intervention strains credulity. It suggests a company charitably kept prices of another service artificially low, rather than optimizing all prices for profit. What services, exactly, were banks underpricing prior to the Consumer Financial Protection Bureau’s cap on late fees? 

Third, there are economic models spelling out the conditions under which the price of an ancillary product acts as a subsidy for the primary product such as movie-theater popcorn subsidizing the price of movie tickets. We should not assume every ancillary product or service subsidizes the price of its corresponding primary product or service. 

Companies should back up threats to raise the price of related offerings in response to price regulation by empirically demonstrating that such subsidies are necessary. In the absence of rigorous proof, regulators should assume there is no subsidy required and the price of related services are optimally set.

Fourth, just because banks can get away with high fees when they’re hidden on the back end, it does not mean competitive forces will allow them to charge those same high prices when they are forced to do so transparently, up front, in a way that allows consumers to easily comparison shop.

Indeed, in the realm of banking services there is good evidence contradicting the Lump of Profits theory. Back in 2009, Congress passed a comprehensive reform of the credit card market banning a range of abusive fees obscuring the real cost of credit. Congress did so despite warnings by the bank lobby

In 2013, initially skeptical researchers dug into the data and found the policy worked: The market was more transparent, with borrowers being charged annual percentage rates reflecting actual cost. The result being credit access was unimpeded by the changes.

Banks and their surrogates are fighting tooth and nail against greater competition in the payment system and warning the lost profit will destroy card-reward programs. Now they are facing the prospect of limits on high-cost loans offered in the form of overdraft fees, which again has generated the usual warnings of all the good things that will be lost. 

It’s a great theory to believe in, if you are a bank. It turns out that average net profit margins for money center banks (banks situated in economic hubs) and regional banks are about 31 percent, more than for any other industry in America. You might think industries such as pharmaceuticals (15 percent net margins) or wireless telecom (nine percent net margins) were blessed with high margins. Apparently, neither of them were picked to automatically get profits as high as the big banks. 

As their leading net profit margins suggest, the banks just are not leaving any money on the table. Or, per the Lump of Profits fallacy, they aren’t eschewing untapped profits that could be seized in response to regulation.

Another episode highlights the Lump of Profits fallacy. While banks have hit consumers with higher interest payments, late fees, overdraft fees, and more. They have also hit businesses with higher swipe fees. In other words, excessive and often unfair pricing by banks in one area hasn’t slowed excessive and often unfair pricing in other areas. Instead, all of these revenues have increased alongside each other for years. 

In other words, it’s just the opposite of what banks assert with their profit-predestination argument. 

The U.S. economy wasn’t built on predetermined profit margins or hidden prices. Instead, it was based on robust, transparent, free-market competition. In a competitive market economy, businesses need to work to earn customers’ loyalties. When they do that by providing better products, services, or lower prices — that is, when they compete on the merits — everyone wins. The business makes money, consumers get value, and the economy grows.

Predetermined profit margins and prices hidden in the back end of a transaction are really just market failures. They only can happen when there is collusive or monopolistic behavior, or when companies act in deceptive ways. Economists have long shown such market failures lead to degraded products and serviceslost innovation, and lost economic activity overall. In short, if you accept that excess profits are destiny, everyone loses.

Because the Lump of Profits fallacy is so destructive to the foundational principle of open markets, it’s important to stay vigilant against the idea any firm in the economy is automatically entitled to the same profits it could achieve using anticompetitive or deceptive measures. That belief strikes at the heart of a free-market system and is a license for everyone to keep getting ripped off. No one should fall for it.

CFPB Final Credit Card Late Fee Rule, American Bankers Association, Rob Nichols

Consumer Financial Protection Bureau Releases Final Rule on Credit Card Late Fees, with Overdraft Fees on Deck, Insights, Sidley Austin LLP