Chapter Twelve
Managing and Pricing Deposit
Services
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Key Topics
• Types of Deposit Accounts Offered
• The Changing Mix of Deposits and Deposit Costs
• Pricing Deposit Services and Deposit Interest Rates
• Conditional Deposit Pricing
• Rules for Deposit Insurance Coverage
• Disclosure of Deposit Terms
• Lifeline Banking
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Key Issues Depository Institutions Are
Faced With:
1. Where can funds be raised at lowest
possible cost?
2. How can management ensure that there
are enough deposits to support lending
and other services the public demands?
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Recent Trends
• Pricing Schedules and Competitive
Maneuverings of Other Financial Institutions
• Competitors: Mutual Funds, Credit Unions,
Cash Management Accounts at Brokerage
Firms and Insurance Companies, and
Interest-Bearing Investment Accounts
Offered by Securities Firms
• An Important Executive Position of the Chief
Deposit Officer
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Types of Deposit Accounts
• Transaction (Payment or Demand) Deposits
▫ Making Payment on Behalf of Customers
▫ One of The Oldest Services
▫ Provider is Required to Honor Any
Withdrawals Immediately
• Nontransaction (Savings or Thrift) Deposits
▫ Longer-Term
▫ Higher Interest Rates Than Transaction
Deposits
▫ Generally Less Costly to Process and Manage
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Transaction Deposit
An Account Used Primarily to Make
Payments for Purchases of Goods and
Services
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Types of Transaction Deposits
• Noninterest-Bearing Demand Deposits
▫ Interest Was Prohibited by Glass-Steagall Act
▫ One of the Most Volatile and Unpredictable
Sources of Funds
▫ Most Deposits are Held by Business Firms
• Interest-Bearing Demand Deposits
▫ Negotiable Orders of Withdrawal (NOW)hybrid savings instrument
▫ Money Market Deposit Account (MMDA) and
Super NOW due to Garn-St Germain
Depository Institution Act of 1982
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Nontransaction (Savings or Thrift)
Deposit
An Account Whose Primary Purpose is
to Encourage the Bank Customer to
Save Rather than Make Payments
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Types of Savings or Thrift Deposits
• Passbook Savings Account
• Statement Savings Deposit
• Time Deposit (CD)
• Individual Retirement Account (IRA) The Economic Recovery Tax Act of1981
• Keogh Deposit – have tax benefits
• Roth IRA – The Tax Relief Act of 1997
Allows Non-Tax-Deductible
Contributions
• Default Option Retirement Plans – The
Pension Protection Act of 2006
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Popular Types of CDs
• Bump-Up CD – Allows a Depositor to Switch
to a Higher Interest Rate if Market Rates
Rise
• Step-Up CD – Permits Periodic Upward
Adjustments in the Promised Interest Rate
• Liquid CD – Permits the Depositor to
Withdraw Some or All of Their Funds
Without a Withdrawal Penalty
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Interest Rates on Deposits Depend
On:
• The Maturity of the Deposit
• The Size of the Offering Institution
• The Risk of the Offering Institution
• Marketing Philosophy and Goals of the
Offering Institution
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The Changing Composition of Deposits in the US
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Core Deposits
A Stable Base of Funds that is Not
Highly Sensitive to Movements in
Market Interest Rates (Low InterestRate Elasticity) and Which Tend to
Remain with the Bank
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Check 21 and Substitute Checks
• Effective October 28,2004 – Permits
Depository Institutions to Electronically
Transfer Check Images
• The Images are Called Substitute Checks
and is a Legal Copy of the Check
• Protects Depositors Against Loss
• Benefits Institutions by Reducing the Cost
of Check Clearing
• Substitute Checks Can Be Sent Electronically
Instead of Sending Bundles of Checks
• More Information:
http://www.federalreserve.gov/
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FDIC Insurance Coverage
• Banks Insured Through Bank Insurance Fund
(BIF)
• Savings and Loans Insured Through Savings
Association Insurance Fund (SAIF)
• Covers Only Those Deposits Payable in the
U.S.
• Many Types of Accounts are Covered Up To
$100,000 (increased to $250,000 until yearend 2009 by the Emergency Economic
Stabilization Act of 2008) for Each Account
Holder within the Same Bank (Even if Different
Branches)
• Deposits Placed in Separate Institutions are
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Truth in Savings Act
• Consumers Must be Informed of the
Deposit Terms Before They a New Account
• Depository Institutions Must Disclose:
▫
▫
▫
▫
▫
▫
▫
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
And the APY
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Pricing Deposit-Related Services
• The Glass-Steagall Act of 1933 – Federal
Limits on Interest Rates Paid on Deposits –
why?
• Nonprice Competition
• The Depository Institutions Deregulation
Act of 1980
▫
▫
▫
▫
Cost-Plus Pricing
Marginal Cost of Deposits
Conditional Pricing
Relationship Pricing
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Cost Plus Profit Deposit Pricing
Estimating
Unit Price
Operating
Planned
Overhead
Charged the
Expense
Profit from
Expense
Customer = Per Unit of +
+
Each
Allocated to
for Each
Deposit
Service Unit
the Deposit
Service
Service
Sold
Function
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The Marginal Cost Approach:
Historical Average Cost Approach
Determines the Bank’s Const of Funds by
Looking at the Past. It Looks at What Funds
the Bank Has Raised to Date and What those
Funds Have Cost
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Pooled Funds Approach
Determine the Bank’s Cost of Funds
by Looking at the Future. What
minimum Rate of Return is the Bank
Going to Have to Earn on Any Future
Loans and Securities to Cover the Cost
of all New Funds Raised?
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Using Marginal Cost to Set Interest
Rates on Deposits
Many Financial Analysts Would Argue
That the Added Cost (Not Weighted
Average Cost) of Bringing New Funds
into the Bank Should Be Used to Price
Deposits.
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Market Penetration Deposit Pricing
The Method of Selling Deposits That
Usually Sets Low Prices and Fees
Initially to Encourage Customers to
Open an Account and Then Raises
Prices and Fees Later On.
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Conditional Pricing
• Schedule of Fees were Low If Customer
Stayed Above Some Minimum Balance Fees Conditional On How the Account Was
Used
• Conditional Pricing Based On One or More
Of the Following Factors
▫ The Number of Transactions Passing Through the
Account
▫ The Average Balance Held in the Account During
the Period
▫ The Maturity of the Deposit
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Upscale Target Pricing
Bank Aggressively Goes After HighBalance, Low-Activity Accounts. Bank
Uses Carefully Designed Advertising to
Target Established Business Owners
and Managers and Other High Income
Households.
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Relationship Pricing
The Bank Prices Deposits According to
the Number of Services Purchased or
Used. The Customer May Be Granted
Lower Fees or Have Some Fees Waived
If Two or More Services are Used.
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Basic or Lifeline Banking
Some People Feel That All Individuals
Are Entitled to a Minimum Level of
Financial Services No Matter Their
Income Level
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Quick Quiz
• What are the major types of deposit plans offered
today?
• What are core deposits, and why are they so
important?
• How has the composition of deposits changed in
recent years?
• A bank determines from an analysis of its costaccounting figures that for each $500 minimumbalance checking account it sells, account
processing and other operating costs will average
$4.87 per month and overhead expenses will urn
an average of $1.21 per month. The bank hopes to
achieve a profit margin over these particular costs
of 10 percent of total monthly costs. What monthly
fee should it charge a customer who opens one of
these checking accounts?
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Quick Quiz (cont.)
• Suppose that a customer holds a savings
deposit in a savings bank for a year. The
balance in the account stood at $2000 for
180 days and $100 for the remaining days
in the year. If the savings bank paid this
depositor $8.50 in interest earnings for the
year, what APY did this customer receive?
(Use the formula required by the Truth in
Savings Act)
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