The US economy is the largest in the world. Its nominal GDP sits at $19.42 trillion (25% of GDP for the entire world), and the US dollar is the go-to currency by which economies are measured and compared.
Its commercial banking sector is similarly impressive, with annual revenue fast approaching the $240 billion mark and $12.5 trillion issued in loans during 2017. However, PwC predicts a $200 billion decline in operating profits for the sector over the next five years, stimulated by changing regulations, rising expenses, and declining room for expansion.
To find out why this is happening, how debt collection and sales factor in, and how the US banking sector is levering regulation and technological innovation to address the trend, read on…
The major players in US retail banking are J. P. Morgan Chase & Co. (total assets of $2553 billion), the Bank of America ($2281 billion), Wells Fargo ($1952 billion), and Citigroup ($1843 billion) - the nearest contender, Goldman Sachs, holds a comparatively small $916 billion.
An easing of regulations around mergers and acquisitions is likely to shake up the middle tier of US retail banking, chiefly characterized by state banks such as Florida’s BankUnited, which boast assets in the tens rather than hundreds of billions.
Smaller banks are also expecting unprecedented freedom to lend, including a dramatic expansion in the mortgage market. The US Senate has recognized that post-crisis legislation had an unduly harsh effect on community banks - institutions on the level of the Bank of Charles Town of West Virginia, which operate at city or county level with assets well under $1 billion.
US retail banking is a profitable and powerful sector, but it’s not as stable as it used to be. The 2008 banking crisis saw major banks collapse and the reputation of the sector change forever, and it all started with bad lending practice - a systemic failure to understand and manage debt.
While the majority of US loans are non-delinquent, a third of American debt is handled by private collection agencies – making debt collection a hot topic within the retail banking sector.
At the end of 2017, 3.7% of bank loans in the USA were recognized as non-performing: the figure has been declining steadily for the last two years. Whether this decline in non-performance will continue, however, is up for debate. US consumer debt continues to rise, amounting to $3.84 trillion (not including mortgages), 45% higher than its previous peak during the 2008 financial crisis.
In particular, student loan debt has continued to accelerate during the last decade. Almost five million student loans are delinquent, amounting to some $84 billion in federally guaranteed debt. These loans have dramatic knock-on effects: declining home ownership (and thus declining mortgage markets), reduced access to credit (stifling economic activity), and whole sectors in investment, housing, tech, and publishing that are effectively funded by bad debt.
Debt sales are currently in high demand, driven by fiscal stimulus plans from the desk of President Trump. Some of the USA’s best-known businesses - Tesla, Netflix, and Chrysler among them - are selling off junk bonds by the millions. The Treasury has responded by raising target ranges for its own debt sales - a predicted $617 billion - selling off comparatively safe government debt. In the long term, the market will be brought under tighter control, and private firms will find it harder to sell these high-risk bonds.
This sense of flux in the sector has given banks an opportunity to consider new ways of approaching and handling consumer debt.
The US has a dual banking system, in which banks can exist at the state or national level, and are regulated by state or federal law. National banks are efficient, technically innovative, and stable, but heavily regulated and slow to implement product and service advancements. State banks are more agile and customer-driven, and their innovations can find their way to other states if they offer greater value to customers.
In terms of market growth and maturity, US banking is arguably driven by debt crisis and recovery. The banking crises of 1907, 1929, and 2008 have all followed a similar pattern: banks make risky lending decisions, fail to correct as the economy turns, and are driven to collapse by defaulted loans, while the survivors curtail their lending and the broader economy slows down. Meanwhile, federal debt is an accepted fact of life: the USA as a whole has not been debt-free since 1835, and federal debt at the end of 2017 amounted to $20.21 trillion (104% of GDP).
Banks are increasingly turning to technology to answer the challenges created by delinquent debt. In recent years, automated payments, interactive voice response, and virtual debt negotiation have all become key operational assets for retail banks.
Online portals have become the standard: according to BillingTree, 84% of debt collection agencies currently use one. This is a welcome turn away from a historical ‘pursue with threat of arrest’ model of debt collection: low-level courts in the USA have been described as ‘debt collection mills’, issuing warrants for arrest over personal debts of as little as $30 and ‘pay or appear’ notices that force delinquent debtors to appear in court and explain their non-payment.
Digital technology must find its feet in a sector where debt collection is regulated at both the federal and state level. The Federal Trade Commission is the primary regulator, but the relatively new Bureau of Consumer Financial Protection also includes debt collection and debt buying in its remit.
The most important federal law for US debt collectors is the 1977 Fair Debt Collection Practices Act, which applies to third parties such as debt collection agencies - but not to internal debt collectors employed by the original creditor. The FDCPA is also restricted to personal, family, and household debts - not businesses. Following a landmark Supreme Court case in 2017, the FDCPA formally excludes companies that purchase debt for their own account.
The FDCPA also includes a provision that more stringent state laws supersede the federal regulation. State regulations vary significantly: many require collection agencies to be licensed, bonded, or both, and most forbid specific unfair practices, in a similar manner to the FDCPA.
The relationship between customers and banks has changed dramatically during the last thirty years, opening further doors to technological intervention. According to McKinsey, 65% of customers interact with their banks through multiple non-branch channels, and human interactions are generally reserved for more complex problems (75% of agent phone calls could not have been resolved without human intervention).
However, the same report observes that customers who use multiple channels to deal with their bank are 60% more likely to be active retail branch users: face-to-face business has not died out. Mid-size banks are particularly keen on tech adoption, with 79% of operational leaders believing their institutions’ survival depends on updating legacy systems.
US banks also face growing competition from fintech firms who are offering new financial services: around 18% of US fintech are directly focused on disrupting the retail banking market. The banks who have successfully resisted this disruption have focused on customer relationships (the first priority identified by a recent Deloitte report), transforming branch operations to improve effectiveness and reduce costs, and developing cost-efficient remote models. These models - call centres, online service, and chatbots - are intended to improve customer loyalty.
The US debt market is fast-moving and under pressure – and changing quickly as a result.
Massive sales of debt are creating instability in a sector that’s already adapting to the consequences of the poor lending practice. Meanwhile, tech adoption and greater segmentation are changing how creditors work with their debtors - but not quickly enough for mid-sized institutions to feel safe. The next chapter of US financial history will be determined by whether banks can face their challenges, fast.