– November 21, 2019
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Having lived abroad for most of the last seven years, I am painfully aware of the challenges that emerge from having incomes, assets, and costs in different currencies. Sometimes that yields you unexpected windfalls, like when the British pound (GBP) between 2013 and 2015 was dirt cheap for us with incomes and assets in Swedish crowns (SEK). 

Sometimes that works in the opposite direction, which Swedish households were brusquely reminded of in the last few years when they were trying to vacation abroad; as the Riksbank had pursued an aggressive monetary policy, which — allegedly — had nothing but an accidental impact on the weakening of the currency, Swedes found that their hard-earned but rapidly depreciating SEK were not very valuable abroad. 

The ways of moving funds between banking systems have naturally been something that I have paid much attention to, both as an academic interested in the exciting developments of payment mechanisms and as a way for me to reduce my own expenses. As a regular consumer, three areas are crucial to monitor and can save you hundreds of dollars over the course of a family vacation or thousands of dollars in my case, as I live abroad full time: foreign exchange conversions, ATM fees or other transfer fees, and uncompetitive rates. 

Most people who have had the misfortune to interact with these can sympathize with a recent conclusion by fintech entrepreneur Aki Ranin: banks “are charging arms and legs for ridiculously simple transactions like money transfers.” 

Invisible Prices

I’ll focus on the last one — the hidden uncompetitive rates — as the first two areas are more readily understood. We might argue over how reasonably priced those services are (newsflash: they’re not), but the services themselves are clear: The first exchanges your funds into a local currency, and the second makes them available to you elsewhere in the world. 

Fees for those services are usually stated up front and are marketed to consumers when banks try to attract clients from other banks (“We offer free ATM withdrawals worldwide, and we only charge a 2 percent conversion fee!”). The third, and most ominous one, is usually where foreign travelers are suffering a lot of unnecessary losses. A blog post at TransferWise, the Estonian-founded fintech unicorn, explains it very well: 

If you google your currency pair or use a reputable online currency converter, the mid-market rate is what you’ll be shown. The bad news is that many banks and money transfer services don’t use the mid-market rate for currency conversions. Instead, they choose their own exchange rate, which they might call a day rate or a tourist rate. Unfortunately, the day rate offered by many providers is inflated[, which] hides the true costs of the conversion from the customer.

The Great Currency Rip-Off

You always buy one currency with funds of another currency, so globally currencies trade in pairs, the most liquid and frequently traded pairs being the U.S. dollar (USD)–euro (EUR) and the USD–Japanese yen (JPY). The market exchange rate of two currencies moves up and down over the course of a trading day, rarely by more than 1–2 percent. When I swipe my card in a foreign currency, a lot of things happen behind the scenes. Large international banks have access to interbank markets where currency exchanges cost them something like 4–5 basis points — about one-twentieth of a cent for each dollar traded. In its marketing, my high-street bank, the large Northern European bank Nordea, states that it “only” charges a 1.55 percent conversion fee — a hefty margin over what it costs them to buy foreign currency on my behalf. 

The question is: 1.55 percent of what? You might think that the conversion fee is calculated on the prevailing GBPSEK or the USDSEK exchange rate. And you’d be wrong. Since exchange rates between currencies fluctuate all the time, there is an interval of exchange rate trades, allowing the bank some leeway in the rate on which it bases its 1.55 percent conversion fee — the higher and more disadvantageous the rate, the more the bank’s 1.55 percent conversion fee is worth. 

Usually, banks take daily values provided by Visa or MasterCard, but even those exchanges tend to be at the expensive end of that day’s trading. I’ve noted, however, that it’s often even worse than that; Nordea frequently quotes me a USDSEK exchange rate that is even outside the range of trades that day:

  • On November 5, the USDSEK traded between 9.593 and 9.665, but the rate on which the bank charged its 1.55 percent fee was 9.67 — just marginally outside the top range of that day’s trading. Using the lowest quote for the day, the effective price I paid for this purchase was 2.4 percent rather than the stated price of 1.55 percent. 
  • On October 27, I was charged USDSEK 9.857 when the currencies on the surrounding days’ market traded between 9.691 and 9.688 — a 1.71 percent fee over the top market quote. 

In contrast to the other fees banks usually levied on the use of their services (commission, ATM fees, transfer fees), this one is highly suspect; the benefit to having my bank trade currency at a worse rate than anybody else seems almost criminal. 

Asking around further, I found that my high-street bank is far from the greatest culprit. American, Canadian, French, German, and Hungarian banks routinely do this to their customers in what I think of as the ugliest of ugly banking behaviors (if you can get away with it, why not?). 

My favorite example comes from WestPac, one of Australia’s Big Four banks. It states that a 3 percent currency conversion fee applies when using their credit or debit cards in a foreign currency. On October 18, an Aussie friend of mine, an unhappy carrier of one of WestPac’s obnoxiously priced cards, was quoted a USDAUD rate of 0.656 when the mid-market that day was 0.68262, for an effective 4.1 percent conversion fee. On October 31, each of her Australian dollars bought her 384.97 Costa Rican colones, when the market rate between Australian dollars and Costa Rican colones fluctuated between 401.87 and 403.73 — for a total effective fee of between 4.21 percent and 4.64 percent rather than the 3 percent that WestPac claims. 

To put this in comparable terms: this is like your picking up $100 worth of groceries, with the store stating up front that it’ll charge a $3 transaction fee. All right, you think, that seems uncalled for, but I will accept the extra charge. Upon checking your bank balances afterward, you find that the total sum you paid was not $103, but $104.64. Pleasure doing business with you!

Surprisingly, the worst culprit in this space is not a bank at all, but the original fintech company, PayPal, the company that always aspired to be the payment provider of the internet. As it allows for international transfers, online payments, and effortless user-friendly interface, it charges an up-front currency conversion fee of 2.9 percent — but the hidden fee charged through entirely imaginary exchange rates can reach up to 10 percent. On a recent USD–SEK transfer, they charged me 4.5 percent above the market rate while claiming to have done me a service. Thanks! 

Most people know about the stated, up-front fees for currency conversion, but few people realize that where banks and financial institutions really squeeze you is their uncompetitive exchange rates.  

The Solution?

Ranin thinks that fintech sucks — and I mostly agree. It can still get so much better. However, while awaiting salvation by technology, we can use the routes available to us. Payment services like WorldRemit or Paysera are usually much cheaper ways of transferring money across the globe. Upstart banks and financial institutions competing in the payment space are offering much better terms than incumbent banks — Uber Money’s recent entry with its generous cash-backs and promise of 0 percent foreign exchange fees is a case in point. Others include:  

  • TransferWise, one fintech unicorn that is actually profitable, uses the mid-market rate and charges transparent up-front fees of 0.35–1 percent for the service, depending on the currency pair. The major benefit with TransferWise is that it allows you to hold balances in more than 40 currencies and local bank details in the major ones (USD, EUR, GBP, AUD). 
  • The British up-start bank Monzo claims to add nothing on top of MasterCard’s rate, which means that what you’re losing out on is only the difference between the mid-market rate and MasterCard’s official rate (usually 0.5–1 percent). 
  • The British-based company Revolut, offering everything from use of debit cards at interbank exchange rates, to insurance for expats, to crypto trading, is often the cheapest option — but it limits quantities (and time of the week) in a way that other fintech firms don’t.  
  • Speaking of crypto, ever since transaction costs have come down, Bitcoin or certain other cryptos would be feasible payment options if vendors accepted Bitcoin in payment. Unfortunately, not many do, which means that transfers and payments using Bitcoin require two conversions: first from your currency to Bitcoin, and second from Bitcoin to the recipient’s currency. Since exchanges are too illiquid, too few, and too far between, the effective price would be even higher. When competing with high-street banks or PayPal, the controversial cryptocurrency can perhaps hold its ground, but against the superior services of Monzo, Revolut, or TransferWise, it is easily outcompeted. 

Incumbent banks with outdated (and exorbitant!) pricing models won’t change until consumers demand it; they will keep using uncompetitive and imaginary exchange rates for as long as they can get away with them. Next time you buy something in a different currency, compare the rate your bank charged you with the going market rates and prepare to be surprised. Then open an account with an upstart bank. God knows the banking sector can use some competition.  

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Joakim Book

joakim-book
Joakim Book is a writer, researcher and editor on all things money, finance and financial history. He holds a masters degree from the University of Oxford and has been a visiting scholar at the American Institute for Economic Research in 2018 and 2019. His writings have been featured on RealClearMarkets, ZeroHedge, FT Alphaville, WallStreetWindow and Capitalism Magazine, and he is a frequent writer at Notes On Liberty. His works can be found at www.joakimbook.com and on the blog Life of an Econ Student;
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