CHAPTER ELEVENManaging And Pricing Deposit

ServicesThis chapter has multiple goals. One of the most important is to learn about the different types of deposits banks and their competitors offer and, from the perspective of a manager, to discover which types of deposits are among the most profitable to offer their customers. We also want to explore how an institution’s cost of funding can be determined and examine the different methods open to institutions to price the deposits and deposit-related services they sell to the public.

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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-Bearing Demand DepositsNegotiable Orders of Withdrawal (NOW)

Money Market Deposit Account (MMDA)

Super NOW Account

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Check Imaging

New Technology Which Allows Any Depository Institution’s Staff Member to Search On Screen for a Check or Other Document By Account Number, Date, Dollar Amount or Document Number As Well As Perform Other Functions

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Thrift or Savings 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)

Keogh Deposit

Roth IRA

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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 U.S.

1983 1987 1991 1993 1996 1998 200137.90 20.50 17.90 20.80 19.80 19.50 19.9062.10 79.50 82.10 79.20 80.20 80.50 80.10

31.90 32.30 29.70 33.40 29.30 24.30 21.2968.10 67.70 70.30 66.60 70.70 75.70 78.80

25.40 22.90 19.10 20.20 22.10 18.90 19.0930.20 36.20 38.30 41.20 39.80 43.50 48.0044.40 40.90 42.60 38.60 38.10 37.60 33.00

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Core Deposits

A Stable Base of Funds that is Not Highly Sensitive to Movements in Market Interest Rates and Which Tend to Remain with the Bank

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Cost Plus Profit Deposit Pricing

Unit Price Charged the

Customer for Each Service

=

Operating Expense

Per Unit of Deposit Service

+

Estimating Overhead Expense

Allocated to the Deposit

Function

+

Planned Profit from

Each Service Unit

Sold

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Historical Average Cost Approach

Determines the Bank’s Cost 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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Deposit Fee Schedules

A Conditional Method of Pricing Deposit Services in Which the Fees Paid by the Customer Depend Mainly Upon the Account Balance and the Volume of Account Activity

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Deposit Fee Schedules May Vary Depending on the Following Factors

The Number of Transactions Passing Through the Account

The Average Balance Held Over Some Designated Period

The Maturity of the Deposit in Days, Weeks or Months

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Upscale Target Pricing

Bank Aggressively Goes After High-Balance, 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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Expedited Funds Availability Act

Sets the Maximum Delay for Receipt of Deposit Credit Banks Can Use and Requires the Bank to Notify Customers of Their Policies for Making Funds Available