“One of the great ironies in modern America is that the less money you have, the more you pay to use it.” So writes Mehrsa Baradaran in How the Other Half Banks: Exclusion, Exploitation, and the Threat to Democracy, her study of how the American banking industry stopped serving the poor, and the “fringe banks” that arose to fill the void. With the unbanked paying as much as 10 percent of their income just on the financial services required to use their money, being poor has become very expensive indeed. In the conversation posted below, we spoke with Baradaran about how we got into this mess—and how we might get out.
Payday loans are typically taken out by people with a steady income who need a few hundred dollars to deal with an unexpected expense. It is a common misconception that people who borrow payday loans don’t know what they’re doing or are “financially stupid.” The truth is that these borrowers have no other credit options.
The more interesting question, to me, is: why are there no other options? The entire payday lending sector began in the 1980s when community banks and credit unions abandoned poor neighborhoods and the savings and loan industry imploded after its deregulation. These institutions today function much like banks and generally avoid small accounts. The fringe banking industry has grown exponentially since.
Q: Some observers have suggested that innovations such as microcredit and mobile banking might help serve the unbanked. What do these kinds of programs do, and what are their limitations?
Microcredit can help solve “microproblems.” For example, if you want to start a business and need a few hundred dollars of start-up capital, microcredit can do the trick. Microcredit has worked with some limited success (and not without controversy) in the third world, but it has not taken off in the United States in large part because it does not address the credit needs of the American population. Americans have a functioning banking and credit system and most businesses need more than a few hundred dollars to get started. Even if microcredit were widely needed and available in the United States, the interest rates rival that of payday lenders and pawn shops and therefore it serves as a loan of last resort.
Mobile banking as it is currently envisioned will make the lives of bank account holders much more efficient. For those who have access to the banking system, they can now make money transfers, deposit checks, and make payments on their mobile phones. This is all great news, but does very little to address the needs of the unbanked. No one in the United States has proposed that mobile phone providers replace banks; nor is that even possible given the complexity of the U.S. banking sector. In Kenya, the introduction of mobile banking through M-Pesa created access where little existed. However, this is because the mobile company had a practical monopoly and they worked with the central bank to increase access. This is not the situation in America. The good news is that once the population had access to banking, the economy boomed and trade became much more efficient—once again demonstrating that access to banking services has many small and large-scale benefits.
Financial and technological innovations certainly have the potential to increase ease and access for all of us and we should continue to foster and encourage them. But we shouldn’t rely solely on technological advances to meet the banking needs of the poor. The problem is much bigger in scope than any of the programs can address, and the source of the problem is rooted in an unequal banking system—it is not just a gap in services.
Q: In raising the possibility of a public banking option to address some of these issues, you point out that there’s really no such a thing as a “private” banking market. Why is this?
Calling banks “private entities” only half reveals their true nature—concealing how they only exist because of government support. While each bank is a private company, the banking system sits atop a foundation of government support without which modern banking does not exist. The government provides this support because the state needs banks to serve as the middleman—taking credit from its source and distributing it to the population. There is a social contract, a bank-state bargain that has taken a variety of forms throughout U.S. history. Today, the deal has become lopsided, as banks still enjoy heavy government support and yet have stopped serving a large portion of the population. And because of heavy government involvement, this is not just an economic problem; it is a social and political one.
Q: Jefferson feared that a centralized bank would threaten democracy, while Hamilton pushed for a national bank. What were their concerns, and how have these competing ideologies shaped banking policy over the years?
Alexander Hamilton was convinced that the United States needed a centralized banking system in order to develop into a first-rate economy. Thomas Jefferson feared this centralization would benefit the rich and powerful in the “money centers” at the expense of the rural agrarian farmers who would be the lifeblood of the economy. Jefferson’s vision was dominant for most of United States history and laws kept banks small and local. This system prevented concentrated power, but it was inefficient and unstable. Hamilton turned out to be right that the country would not prosper without a strong central bank and so we created the Federal Reserve, which made banking safer and less prone to panic. Banking reform over the past century has created a more efficient and safe system by mixing Hamiltonian and Jeffersonian principles. But somewhere along the way, Jefferson’s fears of concentrated power were ignored and the safeguards put in place by two centuries of banking law were eliminated with very predictable results: a behemoth banking industry that is concentrated in the hands of a few. This was not what either Hamilton or Jefferson wanted. Providing a public option reconciles living in a Hamiltonian world while acknowledging Jeffersonian fears.
Q: You suggest in the book that public financial services could be administered through the post office system. What kinds of banking services might the USPS offer? How would this connect to the USPS’s mission and history?
The post office can offer savings accounts, money transfer services, ATMs, debit cards, check cashing, and even small loans. Any and all of these services would be beneficial to the almost 40% of the public that is left out of the mainstream banking system. Although banking at the post office may seem like a radical or experimental new policy, it is nothing of the sort. Almost every developed country has a functioning postal banking system—Great Britain has been operating theirs since 1861—and the United States also had full-scale postal banking from 1910 until 1966. Not only did postal banking help the United States recover from the Great Depression and fund two World Wars, it was also the most successful effort at financial inclusion in the history of the country.
Q: Why might this be a moment of opportunity for postal banking in the US?
There is a large and growing segment of the population that is struggling more than ever to make ends meet. And when they falter, their only financial lifesaver is a payday loan, which only accelerates their financial free-fall. At the same time, the federal government has never been as heavily invested in the nation’s banking industry—an industry that’s never been less interested in serving the broader public’s needs. The social contract between the government and the banking system has been breached and it is time for a national conversation about what our heavy investment in the banking industry means. Providing a public option evens the playing field and allows more of the public access to essential financial services. Postal banking is not about saving the post office. It is about saving the democracy.