Why has there been continuing explosive growth in prepaid cards, primarily marketed by nonbanks and most profitably to people who are already bank customers?
Explanations abound. Do bank customers prefer prepaid to debit cards because a debit card could generate $240 in overdraft fees in just one day? No. Reg. E now allows those fees only for people who opted into them.
Even without overdraft fees, can bank customers save money by choosing prepaid? Not likely. With prepaid, they're likely to incur a fee even to get cash, and it's harder to avoid monthly fees and fees for making payments. They pay to buy the card—which (paradoxically? logically?) they then treat as merely another consumable, and soon dispose of.
To understand why prepaid cards sell, focus on how they're sold: off the shelf, at a convenient store, just like groceries and other consumables. Buy on impulse, or in your habitual weekly shop.
Marketers could also sell prepaid cards on the Internet, or by mail. But they don't sell many through those deferred-gratification channels. Salability requires immediate availability.
Now show me a bank that offers credit cards to take home right away — even from their own branches. Maybe what the bank offers doesn't seem worth applying and waiting for. And if you can't get the card when you want it, then after it finally comes in the mail you are much less likely to start using it quickly and habitually. That's probably why it took over thirty years for debit cards to reach mature volume.
Why no credit cards available in branches? Long tradition — you can't emboss them there. Plus a great many bank customers visit branches only rarely now.
But what ultimately prevents a consumer from getting his bank card without having to check the mail for days or weeks is primarily the network oligopoly, dominated by Visa and Master Card, which favors embossed signature cards.
Back when paper applications were pored over by clerks with quill or ball point pens, this didn't matter. Banks took their time to decide. Then a nonbank (just as in the case of prepaid!) came along and claimed to be able to approve applications right away on the Internet. They were lying, at least initially. Although never profitable, they eventually obtained a bank charter (like Green Dot)—and then went broke, to the detriment of the FDIC. So much for Next Card.
But we subsequently learned how to do immediate decisioning right. For many years, it's been possible to make lending decisions in seconds. This is done routinely at retailers.
The customer can also be approved instantly on the Internet, but in general he can't use his card account immediately, even there. That's because it's difficult to verify identity electronically — so the risk of fraud is deemed excessive. Delivering the card by mail to the same address shown on his credit bureau report or on the existing bank account mitigates that risk.
But if permitted by the networks, the customer could visit any retail location qualified to verify identity, such as a Wal-mart Money Center or a Western Union agent, pick up a card blank and have it decorated with his and for that matter his bank's or retailer's name — but not embossed. The card would be activated pursuant to the issuing institution's approval, by Internet. Just like cell phone SIM cards.
To illustrate the mechanical feasibility of this, in a developing country I was offered a plastic card at a hotel, and accepted. It was produced, personalized and delivered in a couple of minutes. I used it right away.
The networks' attachment to embossing imposes inefficiency and poor service on all banks. That was good enough (for banks, not consumers) when banks only had to compete with other banks. But when banks have to compete with that scary "shadow banking system," such as prepaid card marketers (which some are counting on Mr. Cordray to protect them against)—then you lose. The networks don't work exclusively for the banks anymore.
If a network cooperates, then you can profitably issue not only debit but credit cards immediately, anywhere that identity can be verified, and to anyone who qualifies for a transaction account.
Beat the pants off the prepaid marketers by offering innovative, vastly more appealing and more profitable cards to bankable consumers. Leave the unbanked to the shadow bankers.
Andrew Kahr is a principal in Credit Builders LLC, a financial product development company, and was the founding chief executive of First Deposit, later known as Providian.
