FROM THE OFFICE OF PUBLIC AFFAIRS

Chairman Leach, Ranking Member LaFalce, and Members of the Committee, I appreciate this opportunity to be here today to discuss basic banking and H.R. 4490, the First Accounts Act of 2000. I would particularly like to thank Chairman Leach and Mr. LaFalce for cosponsoring the First Accounts Act on its introduction.

Despite the strong national economy, 10 million American families are not participating in our financial system at even the most basic level. These 10 million families - nearly 85 percent of who make less than $25,000 annually - lack a bank account. Bringing these families into the financial services mainstream will mean lower costs and more opportunities for them to plan financially and to save for the future. That is good for these families, and good for our national economy.

For some time, Treasury has been working to help families gain access to the financial services mainstream. Building on these efforts, the First Accounts Act will help us take small, but important steps to expand the reach of the financial system to many families who lack this basic passport to the broader economy.

My testimony today will focus on four points:

• First, low-income families face practical challenges to full participation in the mainstream financial services sector.
• Second, universal access to financial services is critical to our nation's families and to our economy as a whole.
• Third, the Administration has already taken steps to bridge the financial services divide.
• Fourth, the First Accounts initiative will continue to build on our efforts to bring the unbanked into the financial services mainstream.

The Federal Reserve's 1998 Survey of Consumer Finances indicates that there were nearly 10 million families in the United States in 1998 without either a checking or savings account, representing 9.5 percent of US families. Over 8.4 million of these families have incomes below $25,000, or less than 65 percent of US family median income. Nearly one in four lower-income families is unbanked. The problem also occurs disproportionately among minority families, nearly one-quarter of who are unbanked, even regardless of income. Evidence further indicates that the unbanked are often concentrated in lower-income urban areas.

For most of us, entering the financial services mainstream is simple. We can walk into a local bank branch, make an opening deposit, and walk out with a checkbook and a checking account. We have our paychecks directly deposited to our account, and can access those funds in any number of ways - at convenient ATMs, at point-of-sale terminals at local merchants, or by writing checks. And we are typically able to keep a cushion of funds that allows us to handle financial contingencies, avoid overdrafts and maintain a minimum balance in the account.

For the unbanked, gaining a foothold in the financial services mainstream is unlikely to be as simple. Let me highlight five reasons why Treasury believes many low-income Americans do not have bank accounts: a lack of low-cost account products tailored to their needs; prior problems with bank accounts; insufficient convenient access; a lack of consumer education; and industry perception that these customers may not be profitable.

First, financial institutions may not offer account products that meet the needs of the unbanked population:

• Many accounts impose significant fees for monthly service charges; failure to maintain specified minimum balances, and for bounced checks and other types of account mismanagement. For customers who by definition must maintain low balances, this pricing system can present more risks than rewards. Financial institutions may also charge high fees for products such as money orders that are not used by their typical customers.
• The Federal Reserve reports that when asked why they do not have an account, the unbanked cite reasons including not writing enough checks to make an account worthwhile, minimum balances and/or service charges being too high, not wanting to deal with banks, and not having enough money. Some of these concerns can be addressed by developing and marketing new products tailored to the needs of this population.

Second, the unbanked may have greater difficulty qualifying for conventional account products. This may reflect past problems that the unbanked have encountered in the banking system:

• For example, eighty percent of U.S. depository institutions look up account applicants on an online network that tracks checking and savings accounts closed "for cause" - because the accountholder wrote bad checks or failed to pay overdraft fees, for example. Records of such activity remain on the network for five years, during which time the individual may be unable to obtain a conventional bank account at most financial institutions. While the system may weed out applicants who pose an undue risk to financial institutions, the system may also freeze out for five years those individuals who wrote a small number of bad checks by mistake.
• Surveys indicate that at least half of unbanked households had an account at some point in the past. Many of these individuals may have left the financial services mainstream because they had problems managing or affording a bank account.

A third reason may be the lower availability of mainstream financial services in the areas where the unbanked live and work:

• Mainstream financial institutions are less present in many inner-city neighborhoods. In New York City, for example, only 2.5 percent of all bank branches are located in low-income areas that contain more than 6 percent of the city's total households.
• Electronic banking services may also be less available in these neighborhoods. For example, research indicates that lower-income zip codes in New York and Los Angeles have only half as many ATMs per capita as middle-income zip codes. In combination with other factors, a relative absence of branches and ATMs may make account ownership less attractive and more difficult for families in these neighborhoods.

Fourth, many unbanked Americans lack knowledge about the benefits of a bank account and how to effectively manage household finances. This may negatively affect their attitudes and perceptions about financial institutions and account products.

Fifth, many financial institutions feel that serving this customer segment involves greater risks and fewer rewards than serving other segments. In particular, the costs of developing new products and new distribution networks to reach the unbanked, combined with the costs of marketing and providing consumer education to this population, may result in an extended period of time for a bank to recover its start-up costs for serving the unbanked. Financial institutions may also be concerned about the long-term profitability of serving this sector.

We need to overcome these practical barriers if we are to help bring the unbanked into the financial services mainstream.

Like money itself, the benefits that a bank account provides are easy to take for granted, until you do not have one. Providing greater access to the financial services system has the potential to generate tangible economic benefits, both for families and for our nation's economy.

• Lower Costs to Consumers - Being unbanked can impose a large financial burden on families and individuals. Many families pay a premium for conducting financial transactions outside of the banking system. A recent survey found that nearly half of a sample of Earned Income Tax Credit recipients in inner-city Chicago used a check cashing service to cash their tax refund, yet prices for financial services at these outlets often far exceed the cost of using a low-cost bank account. Recent Treasury research indicates that a minimum wage worker can pay an average of $18 per month for cashing paychecks at a check casher.
• Gateway to Economic Mobility - It is difficult for families to accumulate savings when they don't have a bank account. In addition, paying high costs for financial services can significantly reduce the amount low-income families are able to save. Studies show that the principal gateway to saving and to responsible management of household finances is participation in mainstream financial services. Research by Bill Gale at the Brookings Institution showed that even after controlling for income and other factors, low-income families with bank accounts were 43 percent more likely to have positive net financial assets than families without bank accounts.

With even a modest amount of savings, lower-income families may be able to handle unforeseen financial needs, needs that drive those without savings toward high-cost credit options like payday lending. The high costs of payday loans, which average about $36 on a two-week $200 loan, can erode what little financial stability these families may have.

• Access to Credit and the New Economy - Account ownership is critical to participating in the mainstream economy, as well as to bridging the digital divide. First, without an account it is more difficult and expensive for a person to establish credit, obtain a credit card, qualify for a loan to buy a car or a house, or obtain financing for a small business. Increasing account ownership can thus help low-income individuals who are attempting to better their financial condition. A 1999 Federal Reserve study found that lower-income families who held a transaction account were seven times more likely to have a credit card, and two and a half times as likely to have a first mortgage, as lower-income families without an account.

Second, without a bank account or credit card, it is next to impossible to conduct financial transactions online. It is even difficult to gain access to the Internet. Thus, if we are going to bridge the "Digital Divide," we need to bridge the banking divide.

• Increased Economic Efficiency - Lastly, banking the unbanked increases the efficiency of the economy at large. For example, it costs just 2 cents for the Federal Government to pay an employee by electronic transfer whereas it costs 42 cents to process a paycheck. Private sector employers face similar costs. Financial institutions can also gain by banking the unbanked. Surveys of the unbanked indicate that about half of households without bank accounts regularly cash their checks at banks, thrifts or credit unions, and often at no fee. By moving customers who already are in the bank lobby into an account relationship, banks can reduce costs and generate revenue. Over time, these customers can build credit histories, increasingly the likelihood that they will access other financial products at the bank.

For these reasons, it has been a high priority of this Administration, and the Treasury Department in particular, to help Americans overcome barriers to the banking system. Between 1992 and 1998, the percentage of families without a bank account decreased from 13 percent to under 10 percent. Let me highlight a few of the ways in which this Administration's efforts have contributed to this favorable trend:

First, the strong economy has helped to increase the incomes of even the lowest-paid American families. Real income for families in the lowest fifth of the income distribution rose faster than for any other group since 1993. Strong growth in family income has helped to reduce the ranks of the unbanked.

Second, a strong Community Reinvestment Act. Under the revised CRA regulations adopted in 1995, banks and thrifts are examined for their performance not only on lending and investment, but also on the provision of services. CRA is helping to encourage financial institutions to be more attentive to the financial services needs of low- and moderate-income persons. The Federal Financial Institutions Examination Council (FFIEC) has made clear that banks and thrifts can receive positive CRA consideration for the provision of consumer education, innovative accounts, Individual Development Accounts, and Electronic Transfer Accounts, discussed more fully below.

Third, EFT '99. In 1996, Congress enacted the Debt Collection Improvement Act, which required Treasury by 1999 to make most Federal payments by electronic funds transfer. To meet this requirement, Treasury launched the EFT'99 initiative, and put in place a two-part strategy to meet its statutory obligations under the Act.

• First, Treasury launched a nationwide public education campaign to reach the millions of people who receive federal benefits by paper check, including those without bank accounts. As part of the EFT'99 initiative, Treasury's Office of Public Education developed a wide variety of promotional materials, conducted broad-based public relations activities, and partnered with a national network of community organizations to educate consumers about EFT. At the end of 1999, Treasury estimated that it had reached 1.1 million people face-to-face through its community outreach program alone.
• Second, Treasury created the Electronic Transfer Account (ETA). The Department worked with consumer groups, industry and other government agencies to develop the ETA. The ETA is a low-cost, no-frills basic bank account available at federally insured financial institutions into which recipients can have their Federal payments deposited electronically. It is an entirely voluntary account - any individual receiving a Federal payment is eligible to open an ETA, and any Federally insured financial institution may become an ETA provider.

The EFT'99 initiative was designed to address, specifically for federal benefit recipients, many of the challenges of increasing account ownership among the unbanked:

• The ETA was designed to be accessible and affordable for lower-income, unbanked federal check recipients, including those who may have had problems managing a bank account in the past. Its primarily electronic design protects accountholders and banks from incurring the costs of checking overdrafts, and makes the account easier to manage for consumers who may have had problems doing so in the past. Treasury's EFT'99 research indicated that a substantial portion of unbanked federal check recipients were interested in opening a low-cost account like the ETA with features tailored to their needs.
• The EFT'99 public education campaign has reached millions of check recipients, informing them of the safety and security of direct deposit, along with how to obtain an ETA.
• Treasury conducted extensive research on the product preferences of the unbanked federal benefit recipient population, and on the costs to large and small banks of offering transaction accounts to this population. In the ETA, Treasury sought to balance the cost to financial institutions of supplying various account features with consumers' product preferences.
• Treasury compensates each ETA provider $12.60 for each new ETA customer. This compensation offsets the incremental set-up costs to financial institutions for establishing a new ETA, while the accountholder pays a small monthly fee to cover the recurring costs of maintaining the account. The availability of this compensation has increased the number of institutions volunteering to offer the ETA.

Since unveiling the ETA last June, we have conducted extensive marketing of the ETA to financial institutions. As of June 22, we have 586 financial institutions certified to offer the ETA in 6,132 branch locations nationwide.

Fourth, as I noted previously, many lower-income communities lack sufficient convenient access to mainstream financial services. That is why Treasury has been working to provide easy access to banking services within previously under-served communities. Working with the US Postal Service, Treasury has established a small pilot program to place ATMs in local post offices to give families easy and secure access to funds at a low cost.

Fifth, Treasury's Community Development Financial Institutions Fund has also played an important role in promoting access to financial services in lower-income communities. Through its CDFI and Bank Enterprise Award programs, the Fund provides financial incentives to banks, thrifts, credit unions and CDFIs for providing increased retail banking services to underserved communities. The Fund currently provides per-account incentives to financial institutions that increase their provision of ETAs to consumers in lower-income communities.

Lastly, the Administration has supported basic savings initiatives that bring low-income families into the banking mainstream. Under the Assets for Independence Act, the Department of Health and Human Services is working with states and local organizations to help low-income people establish Individual Development Accounts (IDAs). Families' deposits into these savings accounts are matched with federal and private dollars to help accountholders meet savings goals, such as a down payment on a home or school expenses. Under another demonstration, IDA programs are operating in 13 sites across the country, with more than 2,000 savers. The President's proposal for Retirement Savings Accounts in his FY 2001 budget builds on the successful model of IDAs, and would help more low-income families to start savings relationships with mainstream financial institutions.

The President's FY 2001 budget includes $30 million for the Treasury Department to build on this Administration's work by piloting strategies to help more low- and moderate-income Americans to access basic financial services in the banking mainstream. Treasury estimates that at least half of the 10 million families without bank accounts do not receive federal benefits and are thus not eligible for the ETA.

The First Accounts Act of 2000, introduced last month by Chairman Leach and Ranking Member LaFalce, would authorize Treasury to extend the benefits of low-cost basic bank accounts to the millions of unbanked Americans who do not receive Federal payments. Companion legislation has also been introduced in the Senate. The First Accounts bill is currently cosponsored by 25 Members, including many of the Members of this committee.

The initiative involves four elements:

• First Accounts - Treasury will work with financial institutions to pilot low-cost, electronic banking accounts for unbanked, non-federal benefit recipients. The program will provide financial institutions with flexibility and incentives to design products that work for consumers who may have difficulty qualifying for a conventional checking or savings account, and that are profitable for financial institutions. The design of these accounts will build on our experience designing the basic banking product for federal benefit recipients, the ETA.
• ATMs and other access points - Treasury will work with financial institutions and electronic networks to increase the number of electronic access points in low-income neighborhoods that often lack these basic services. This may include providing incentives for the installation of automatic teller machines in safe, secure, and convenient locations, including U.S. Post Offices, expanding the number of point-of-sale terminals at merchant locations in these neighborhoods, or providing innovative internet-based solutions in these communities.
• Financial Education - Treasury will work with other organizations to educate low-income Americans about the benefits of having a bank account, managing household finances, and building assets. First Accounts will support partnerships between financial institutions and community-based organizations with expertise in delivering consumer financial literacy. This consumer education effort will build upon the EFT '99 public education campaign and our work on the National Partners for Financial Empowerment.
• Research and Development - The initiative will also fund new research at Treasury on the financial services needs of low- and moderate-income individuals who do not receive federal benefits, as well as the development of products that can help financial institutions meet those needs. This part of the initiative will build on the extensive original research that Treasury conducted for EFT'99.

This fall, Treasury's CDFI Fund will expand the scope of its BEA and CDFI programs to provide incentives for banks, thrifts, credit unions and CDFIs to offer First Accounts-type products to customers who do not receive Federal payments. Awards, subject to the availability of funds, will depend on the actual increase in services provided. The results of these programs will help to inform the structure and incentives for the First Accounts pilot.

EFT'99 will also continue to provide valuable input into the structure of the First Accounts initiative. As Treasury continues its consumer education efforts, it will further develop best practices to apply to the First Accounts initiative. As the ETA continues to roll out over the coming months, Treasury will gauge the demand for low-cost electronic account products among consumers and industry experience in offering such products. Treasury will also gather evidence from our Postal-ATM pilot in six neighborhoods, showing ATM usage in safe, secure locations in underserved, low-income neighborhoods. We will pair our findings from the pilot with further research to identify gaps in electronic access to banking services.

After assessing these outcomes, Treasury will determine how best to allocate the pilot's elements - research, education, access points and accounts - and to draw on the strengths of our offices and bureaus that have been instrumental in the implementation of EFT'99.

Despite the unprecedented growth in our nation's economy over the last several years, 10 percent of American families are not participating in our banking system at even the most basic level. This Administration has done much to help lower-income families move into the financial services mainstream, but much more remains to be done. Helping the 10 million US families without bank accounts to access the financial services mainstream can lower costs for these families and encourage them to save, while benefiting our economy as a whole. The First Accounts Act of 2000 represents a small but significant step toward helping more of these families to enjoy the benefits of full participation in that system. We look forward to working with this Committee to enact this important legislation. I would like to thank Chairman Leach and Ranking Member LaFalce for focusing attention on the issue of the unbanked with this hearing. I will be happy to answer any questions you might have.