Q & A
I understood that when Ireland entered EMU we would no longer have to worry about paying banks for converting money from Irish pounds to other currencies which were also members of EMU. However, when I read the notices of charges from the various banks in the newspapers, they seemed to be charging almost as much after our entry to EMU as before. Is this correct and, if so, how has it happened?
Mr F.S., Dublin
Aha, you have just uncovered the first great fallacy of European Economic and Monetary Union (EMU) - that membership would lead to an automatic benefit to consumers through the absence of the currency risk which was previously passed on to customers. It may well be that you were fooled by all that wailing and wringing of hands which the banks and their representatives embarked on last year when telling us all how much the loss of foreign exchange business would cost them.
When it came to the crunch what happened was what everyone had always assumed would happen - the banks would find some other way to part us from our money.
If it is any consolation, you are not the only one to be surprised by the approach of the banks and the approval they have received for their new charges. Politicians on all sides of the Dail were critical last week when the new charges were published and, indeed, some of the banks acted speedily in reducing some of their charges although this is more likely because their rivals were undercutting them in a particular area.
To explain how banks, building societies and bureaux de change succeeded in implementing the new charges, one needs to examine how the costs involved in foreign exchange transactions are divided. Prior to the arrival of the euro as our new national currency on January 1st last, the charges comprised two elements - a commission or handling charge and a charge to cover the margin or spread.
The first of these was quite simple. It was a charge to customers intended to cover the administrative cost to the bank of executing the transaction staff, heating, light, the physical fabric of the bank building etc. The second charge - the margin or spread - was designed to cover the cost to the bank of buying and selling currency in the financial markets. The second charge generally formed the larger part of the costs involved in buying foreign currency.
Once we entered EMU, this second charge ceased to exist in relation to foreign exchange dealings involving the currencies of the member-states.
These were the Austrian schilling, the Belgian franc, the Dutch guilder, the Finnish markka, the French franc, the deutschmark, the Irish pound, the Italian lira, the Luxembourg franc, the Portuguese escudo and the Spanish peseta. Of course if one were looking for dollar or yen, normal foreign exchange charges would still apply because the currency risk still existed.
The same was true of transactions involving the currencies of those member-states of the EU which opted not to join EMU or failed to meet the criteria to do so. In terms of Irish trade and tourism, the more important of these were Britain's sterling and the Greek drachma.
That left only a handling or commission charge within the euro zone currencies. What the banks, building societies and others have done is essentially raise this charge by a colossal percentage to preserve their income. They now claim that they need to do so to cover the administrative costs involved in foreign exchange transactions. However, those costs were supposed to have been accommodated in the previous commission charge.
They have also made great play in their public pronouncements of the "savings" on offer to customers as a result of the "lower" overall cost of exchanging money from one currency to the other. However, it is the banks that are making the saving. Neither the bank nor the customer now have to contend with the currency risk inherent in fluctuating rates of exchange - the difference in the cost of buying and selling a currency, costs which changed hourly - but the customer is still bearing a large portion of this cost in the new charges whereas the banks are, in fact, increasing the margins they earn from customers by passing on a portion of a non-existent risk.
How this operates is best seen by the charges made by the banks, building societies and bureaux de change before and after January 1st, 1999 in selling notes in a foreign currency of a fellow euro-zone member in exchange for pounds. Ulster Bank maintains that a "typical customer transaction" would be one involving the exchange of £175, so we will use that amount for the purposes of the illustration.
Allied Irish Banks: AIB used to charge 1 per cent commission on all transactions with a minimum charge of £1 and a maximum of £5. On £175 it would amount to £1.75. In addition it charged a margin cost which varied from currency to currency but, on average, would amount to £6 of an exchange involving £175 - a total of £7.75. Since the arrival of EMU, the bank now charges 3.5 per cent commission on such transactions with a maximum of £15. On £175, that would amount to a charge of £6.13 - a whopping 250 per cent-plus increase in commission costs for a transaction that involves no risk to the bank.
Bank of Ireland: So how does AIB's big rival fare in the figures? It used to charge the same commission as AIB, 1 per cent with a £1 minimum and a £5 maximum - £1.75 in this case. Its margin charge was 2.5 per cent on amounts below £700 and 1.75 per cent on amounts above this - £4.37 in this case. Since the change, it charges a commission of 2.25 per cent below its £700 threshold and 1.5 per cent above it with a £1 minimum charge. On £175, that comes to £3.94, better than AIB by some way but still a 125 per cent rise in commission.
Ulster Bank: At Ulster Bank itself, the same commission previously applied, although the minimum and maximum charges were lower at 25p and £2 respectively. On top of this there was a flat 2.5 per cent margin - leaving the overall charge (£1.75 + £4.37) the same as Bank of Ireland. Since January 1st, its commission on such transactions is charged at 2.25 per cent with a minimum charge of £2 and a maximum of £20. On £175, that implies a charge of £3.94, the same as Bank of Ireland.
National Irish Bank: NIB charged the same 1 per cent basic commission prior to January 1st, the same as the rest of the traditional high street banks, with a minimum charge of £1 and a maximum of £2. Again, in this case, the charge would be £1.75. The margin was 2 per cent - £3.50 here. Now it has doubled its commission rate to 2 per cent, with a minimum of £2, a maximum of £10 and a charge on £175 of £3.50.
Irish Permanent: The newest of the major retail banks, Irish Permanent used to charge the same commission - 1 per cent, with a maximum of £2 and no minimum. Its margin charge was 2.391 per cent or £4.18 in this case. Under the new order, it charges a 3 per cent commission on all dealings involving less than £300 with a minimum of £2. Over £300, it charges 2.25 per cent plus £2. On £175, that amounts to a charge of £5.25, a rise of 200 per cent overnight.
TSB: The competition among the banks prior to EMU is evident in the fact that there is practically no difference between them on commission rates.
TSB, too, charged 1 per cent with a £1 minimum and a £5 maximum. Margins were charged at 3 per cent - £5.25 on £175. Now, in the absence of spreads or margins, the commission rate is 3 per cent - treble what it used to be - with a £2 minimum and a £30 maximum.
First Active: The recently converted First Active's commission and margin charge structures were identical to that of TSB. They mirrored TSB in the new commission charge of 3 per cent - again treble the old rate - but in this case with no upper limit to what can be charged.
ACC: ACCBank took a beating in the press in the days after the new charge structure was announced. This was because on smaller amounts it succeeded in actually charging customers more than under the old scheme when commission and margin rates were added - truly a remarkable piece of marketing. Its old rates were a flat 1 per cent commission and a margin rate of 3.5 per cent. Since the arrival of the new currency, it now charges a rate of 3 per cent plus £2 on all transactions. On our £175, this comes to £7.25, the dearest to date and a rise of 314 per cent on its former commission charge.
Guinness & Mahon: Although not one of the big players in this particular area of the banking business, Guinness & Mahon was the most restrained in its new charges, albeit its old commission rate ranked as the highest at 1.5 per cent with a minimum of £3, which would apply in this case, and a maximum of £25. Its margin was a flat 2 per cent. The new commission rate is 2 per cent with a £3 minimum and a £50 maximum. This would lead to a rise in commission charges for our transaction of only 50p to £3.50 - due probably to the fact that this bank gears its charging structure to the larger amounts its customers are more likely to require.
EBS: The largest remaining building society, which trumpets the benefits of its mutual status under which it says everyone gains, does not come out of the exercise any better than its publicly-quoted peers. Like them, it formerly charged 1 per cent commission with a £1 minimum, a £5 maximum and £1.75 in this case. In addition there was a margin of 3.4 per cent, one of the highest, which would mean a charge of £5.95 on our sum. Under EMU, EBS raised its commission charge four-fold to 4 per cent on sums under £500 and 3 per cent on larger amounts. In this instance, that would involve commission of £7 to convert our £175 - the second highest of anyone in our survey after ACC outside the traditionally more expensive bureaux de change.
Bureaux de change: While the bureaux de change have also increased their rates under EMU, the move has not been quite so drastic. Although some now charge as high as 6 per cent - notably the AIB subsidiary AIB Currency Bureaux Ltd - the bureaux previously charged commission of from 2 per cent to almost 4 per cent.
It appears the banks have figured out that what was previously a commercial option for the bureaux is now an avenue for them to maximise earnings at travellers' expense.
Despite the phenomenal rise in charges made by all the financial institutions above, it is still worth shopping around. As the figures, show there can be an appreciable difference between one institution and another.
Of course there is an alternative although it is unlikely to overly worry the more traditional providers of foreign exchange. Under the Maastricht Treaty, the central banks of member-states of EMU are obliged to offer a facility to the public through which they can convert bank notes of euro zone denominations to pounds without any charge. Unfortunately, you cannot change pounds for foreign currency. . . still it might be of some use to those who overestimate their requirements and return from holiday with a pocketful of pesetas, lire or francs. You could always avail of the same arrangement to change your pounds into the required currency by visiting the central bank of the relevant state but somehow I can't see it catching on in the age of convenience.
Send queries to: Q&A, Business This Week, The Irish Times, 10-15 D'Olier Street, Dublin 2 or email to firstname.lastname@example.org