Chapter Ten
Managing and Pricing Deposit Services
Key Topics
• Types of Deposit Accounts Offered
• The Changing Mix of Deposits and
Deposit Costs
• Pricing Deposit Services
• Cost plus Pricing
• Conditional Deposit Pricing
• Truth in Savings Act
• Relationship Pricing
• Lifeline Banking
Introduction
p. 293
• Deposits are a key element in
defining what a bank does and
what critical roles it plays in
the economy
• Deposits provide most of the
money for making loans and
represent the primary source of
profits and growth for a bank.
Introduction (continued)
p. 294
• Two key issues every bank must deal with in
managing the public’s deposits
1. Where can funds be raised at the lowest
cost?
2. How can management be sure that the
bank always has enough deposits to
provide loans and other services people
demand?
• So challenging has it become today to get large,
new deposits that many banks have created a
new leadership position – chief deposit officer
Types of Deposits Offered by Banks p. 294
1. Demand Deposits, or Transaction Deposits
A. Non-interest bearing demand deposits
B. Interest-bearing transaction deposits
i. NOW accounts
ii. Money Market Deposit Account
2. Nontransaction Deposits
A. Savings accounts
i. Passbook
ii Statement savings
B. Time Deposits
C. Retirement Savings
Types of Deposits Offered by Banks p. 294
A. Non-interest bearing Demand Deposits, or
Transaction Deposits
▫ Used mostly for making payment on
behalf of customers for goods & services
▫ One of the oldest services
▫ Bank is required to honor any withdrawals
immediately
▫ Hottest item in the transaction deposit field
today appears to be the mobile check deposit
▫ Designed principally for customers on the
move, carrying camera-equipped smart
phones
Types of Deposits Offered by Banks
(continued) p. 294-295
▫ Interest was prohibited by
Glass-Steagall Act, 1933. Too
costly to banks.
▫ One of the most volatile and
unpredictable sources of funds
▫ Most deposits are held by
business firms
Types of Deposits Offered by Banks
(continued) p. 294-295
B. Interest-Bearing Demand Deposits
▫ Negotiable Orders of Withdrawal
(NOW) – like a checking and savings
in one account. It pays some interest
but customers must give notice before
withdrawing funds.
▫ Money Market Deposit Account
(MMDA) created as an innovation by
the bank to Regulation Q. Pay higher
interest rates backed by low risk
securities, bonds.
Types of Deposits Offered by Banks p. 294
2. Nontransaction (Savings) Deposits
▫ Longer-Term
▫ Higher Interest Rates Than Transaction
Deposits
▫ Generally Less Costly to Process and
Manage
▫ An account whose primary purpose is to
encourage the bank customer to save
rather than make payments
Types of Deposits Offered by Banks
(continued) p. 296-297
2. Types of Nontransaction Deposits
A. Savings Accounts
i. Passbook Savings Account – small
deposits, less limits on withdrawels. Used
savings book.
ii. Statement Savings Deposit – electronic
e-statements
B. Time Deposit (CD) – purchased for as
few as 7 days and up to 5 years. Also
known as Certificates of Deposit
Types of Deposits Offered by Banks
(continued) p. 296-297
C. Retirement Savings Deposits
▫ Individual Retirement Account (IRA) –
Save for retirement, tax deduction
▫ Keogh Plan retirement accounts –
available to self-employed persons
▫ Roth IRA – The Tax Relief Act of 1997
allows non-tax-deductible contributions
that can grow tax free and pay no tax
on investment earnings when
withdrawn
Interest Rates Offered on Different Types of
Deposits
p. 297-298
• The Composition 组成 (zǔchéng) of
Deposits – CORE DEPOSITS
▫ Bankers would generally prefer a high
proportion of transaction deposits (including
regular checking or demand accounts) and
low-yielding time and savings deposits
• These accounts are among the least
expensive of all sources of funds and often
include a substantial percentage of CORE
DEPOSITS. Core deposits are stable sources
of funds for the bank with low interest rate
risk.
CONCEPT CHECK
1. What are the major types of
deposit accounts that banks
offer today?
2. What are core deposits, and
why are they so important
today?
Interest Rates Offered on Different Types of
Deposits
p. 297-298
• The Ownership of Deposits
▫ The dominant holder of bank deposits
inside the US is the private sector
• The Cost of Different Deposit Accounts
▫ Managers of banks would prefer to sell
only the cheapest deposits to the public
but it is public preference that determines
which types of deposits will be created
TABLE 10–1 The Changing Composition of Deposits in the
United States
p. 298
Pricing Deposit-Related Services p. 302
• An individual depository institution has
little control over its prices in a financial
marketplace that approaches perfect
competition
• It is the marketplace, consumers like
you and me (the public), not the
individual financial firm, that
ultimately sets prices
• Financial institutions, like most other
businesses, are price takers, not price
makers
Pricing Deposit-Related Services p. 302
• In pricing deposit services,
management has a dilemma
(problem)
• It needs to pay a high enough
interest return to attract and hold
customer funds, but must avoid
paying an interest rate so costly it
takes away from profit margin
Pricing Deposits at Cost Plus Profit Margin p. 302-304
• The Glass-Steagall Act of 1933 – Federal
limits on interest rates paid on deposits
• Deregulation has brought more frequent
use of single service pricing as greater
competition has raised the average real
cost of a deposit for deposit-service
providers.
Pricing Deposits at Cost Plus Profit Margin p. 302-304
• This means that deposits are usually priced separately from
other services
▫ COST PLUS PRICING FORMULA
Using Marginal Cost to Set Interest Rates on
Deposits
p. 305-306
• What deposit interest rate should the
bank offer its customers?
▫ We need to know
▫ The marginal cost of moving the
deposit rate from one level to another
▫ The marginal cost rate, expressed as a
percentage of the volume of additional
funds coming into the bank
Using Marginal Cost to Set Interest Rates on
Deposits
p. 305-306
TABLE 12–2 Using Marginal Cost to Choose the Interest
Rate to Offer Customers on Deposits
p. 305
Using Marginal Cost to Set Interest Rates on
Deposits
p. 306-309
• Conditional 有条件的 (yǒu tiáojiàn
de) Pricing
▫ Customer pays a low fee or no
fee if the deposit balance
remains above a certain level,
but has a higher fee if the
average balance falls below that
level.
Using Marginal Cost to Set Interest Rates on
Deposits
p. 306-309
• Conditional Pricing
▫ The customer pays a price depending on
how they use the account, based on
these factors:
1. The number of transactions the
customer uses.
2. The average balance held in the
account over a certain period
(usually per month)
3. The maturity of the deposit in days,
weeks, months, or years
Using Marginal Cost to Set Interest Rates on
Deposits
• Conditional Pricing
▫ Deposit pricing policy is
sensitive to at least two
factors:
1. The types of customers each
bank plans to serve
2. The cost that serving
different types of depositors
will present to the bank
EXHIBIT 10–1 Example of the Use of Conditional Deposit Pricing
by Two Banks Serving the Same Market Area
p. 309
Truth in Savings Act 1991
p. 307
• Consumers must be informed of the
deposit terms before they open a new
account, including fees, penalties &
interest rate.
• Depository institutions must disclose
such things:
▫ Minimum balance to open
▫ Minimum to avoid fees
▫ How the balance is figured
▫ When interest begins to accrue
▫ Penalties for early withdrawal
▫ Options at maturity
▫ The APY (Annual percentage yield)
Truth in Savings Act 1991
▫ The APY
Annual Percentage Yield
p. 307
Relationship Pricing Based on the Total
Customer Relationship with the Bank p. 310
• Pricing deposits according to the
number of services the customer
uses
▫ Customers who purchase two
or more services will have
lower deposit fees compared to
the fees charged customers
having only a one service to
the bank
Relationship Pricing Based on the Total
Customer Relationship with the Bank p. 310
• The main idea of relationship
pricing is that it promotes
greater customer loyalty and
makes the customer less
sensitive to the prices posted on
services offered by competing
financial firms
TABLE 10–3 Factors in Household and Business Customers’
Choice of a Financial Firm for Their Deposit Accounts (ranked
from most important to least important)
p. 310
CONCEPT CHECK
3. Describe the differences
between the following deposit
pricing methods in use today: costplus pricing, conditional pricing,
and relationship pricing.
4. What does the 1991 Truth in
Savings Act require financial firms
selling deposits inside the United
States to tell their customers?
Basic (Lifeline) Banking: Key Services for
Low-Income Customers
p. 312-313
• Should every adult citizen be guaranteed
access to certain basic financial
services, such as a checking account or
personal loan?
• A recent survey found that a substantial
segment of the U.S. population is either
• “Unbanked”
▫ No deposits or loans of any kind
• “Underbanked”
▫ Having access to some important
services but not others
Basic (Lifeline) Banking: Key Services for
Low-Income Customers
p. 312-313
• Among the “underbanked” are
those families relying on
expensive payday loans, check
cashing firms, pawnshops, and
money order services to pay their
bills
• Racial and ethnic minorities are
more likely than the general
population to be “underbanked”
Basic (Lifeline) Banking: Key Services for
Low-Income Customers
p. 312-313
• Banks receive aid from the government to
provide low interest loans to lower
income communities and provide deposit
insurance.
• The Community Reinvestment Act of
1977 requires banks to have a certain
number of banks in lower income
communities.
• Who should bear the cost of the extra
services to the poor are issues that banks
face today and add pressure to managers.
Concept Check Q and A
1. What
are the major types of deposit plans
that depository institutions offer today? A:
Deposit plans can be divided into transaction
deposits or nontransaction deposits, and
retirement savings deposits. The primary
function of transaction deposits is to make
immediate payments to the customers. The
principal function of nontransaction deposits is
to serve as savings accounts and pay higher
interest rates than transaction deposits do.
Other deposit accounts include passbook and
statement savings accounts, certificates of
deposits (CDs), and other time deposit accounts.
Retirement savings deposits are an instrument
especially for saving for the future.
Quick Quiz – Concept Check Q and A
2. What are CORE DEPOSITS,
and why are they so important
today? Core deposits are the most
stable parts of a banks funding base
and usually include smaller savings
accounts. They have relatively low
interest-rates. Holding a large amount
of core deposits has an advantage in
having access to a stable and cheaper
source of funding with a relatively low
interest-rate risk.
Quick Quiz – Concept Check Q and A
3. Describe the differences
between the following deposit
pricing methods in use today: costplus pricing, conditional pricing,
and relationship pricing.
Cost-plus deposit pricing calls for a
bank to charge deposit service fees
adequate to cover all the costs of
offering the service plus a small
margin for profit.
Quick Quiz – Concept Check Q and A
Conditional pricing is used by banks to get
the customers they want. With this kind of
pricing a bank will offer interest rates or fees
based on account activity. This type of
pricing encourages customers to hold a high
average deposit balance which gives the
bank more funds to invest in earning assets.
Relationship pricing involves basing fees
charged to a customer on the number of
services the customer purchases from a
bank. Many services means a lower fee or no
fees.
Quick Quiz – Concept Check Q and A
4. What does the 1991 Truth in Savings Act
require financial firms selling deposits inside
the United States to tell their customers?
The 1991 Truth in Savings Act requires banks to
fully inform their deposit customers on the
terms offered to each depositor. The customer
must be informed about any penalties or
service fees which could reduce his or her
expected yield. Other disclosures include
minimum balance to open, annual percentage
yield (APY) and options at maturity.
Quick Quiz – Concept Check Q and A
5. What is LIFELINE BANKING?
What pressures does it put on the
managers of banks and other
financial institutions?
Quick Quiz – Concept Check Q and A
5. What is LIFELINE BANKING? What
pressures does it put on the managers of
banks and other financial institutions?
Lifeline banking is service offered by banks to
poorer customers. Banks are helped by
government in the form of low-interest loans
and deposit insurance and, therefore, have
some public-service responsibilities which may
include providing certain basic services to all
potential customers, regardless of their income
or social status