Over the past few weeks, some colleagues and I have been trying to figure out how it's possible that Bank of America (BAC 1.35%) can do so many bad things and still remain in business.
And just to be clear, the same could be asked about any of the nation's biggest banks. Like Bank of America, Citigroup (C -0.09%) was saved from the brink of failure five years ago by the federal government. Wells Fargo (WFC 2.69%) scores almost as poorly as Bank of America on customer satisfaction surveys. And just recently, JPMorgan Chase (JPM 0.51%) agreed to pay the Federal Energy Regulatory Commission a record $410 million to settle charges that it had illegally manipulated energy prices.
Far from just remaining in business, moreover, both Wells Fargo and JPMorgan are on an impressive run of consecutive quarterly profits despite these transgressions. What gives?
The answer, as best as I can tell, is twofold.
First, as I discussed here, the nation's largest banks have become particularly adroit at layering in switching costs that make it effectively impossible for customers to abandon them irrespective of mistreatment.
Ever wonder why a bank is willing to give you free checking if you set up direct deposit and/or automatic bill pay? Because it makes it harder for you to take your business elsewhere in the event things go wrong.
A consultant for some of the nation's biggest banks recently told me that between 40% and 50% of checking accounts are associated with people who live paycheck to paycheck. Assuming these accounts have both direct deposit and automatic bill pay, in turn, you can begin to appreciate their conundrum.
Quite simply, timing the switch would be difficult, if not impossible, without incurring some type of overdraft fee in either the old account or the new one. This goes a long way toward explaining why 57% of the respondents in a separate survey concluded that it's too much of a hassle to switch banks.
The second, albeit less tangible, reason can be found in the bowels of your Economics 101 textbook. That is, monopoly power. Or, a bit more precisely, oligopoly power.
This manifests itself in a number of ways in the banking industry. Absent Citigroup, which is largely a business bank, there are only three retail lenders that offer the convenience of coast-to-coast branch networks: JPMorgan, Bank of America, and Wells Fargo.
Given the uproar over the very real notion of "too big to fail," moreover, there's every reason to believe that, at least for the foreseeable future, these will remain the only game in town in this regard. As a result, these three banks are effectively insulated from the full weight of competition, which may otherwise require them to clean up their acts.
Beyond this, the entrenched competitive advantage of a nationwide branch network allows these banks to give their customers less in return for the same price that they would pay at, say, a regional or community bank. Another way to look at this is to say that the nation's biggest banks may be able to artificially raise prices on substandard financial products. Suffice it to say, this is a clear indication of market power.
In sum, the reasons banks can treat their customers poorly and get away with it is because they can. They've insulated themselves through both size and switching costs and now are simply acting accordingly.
