The earnings credit rate (ECR) is the interest paid by banks on the deposits of customers. Banks apply the ECR on balances that depositors leave in their non-interest-yielding accounts. The amount calculated after applying the ECR is used to credit service fees. Banks usually peg the ECR to the rate of the U.S. Treasury bill.
Banks use the earnings credit rate (ECR) to offset the fees paid by customers for the services that they provided. They include business loans, savings accounts, debit cards, credit cards, and merchant services.
ECR is applied to funds that depositors leave in their accounts; hence, customers holding large deposits pay lower bank service charges.
The earnings credit rate (ECR) is the interest paid by banks on non-interest-yielding customer deposits.
ECR is used by banks to credit clients with the fees for services provided by them.
It is approximated to the rate of the 91-day U.S. Treasury bill.
Brief History of the Earnings Credit Rate (ECR)
The practice of ECR found its roots in the U.S. when banking regulations were passed during the 1930s. Regulation Q, enacted by the Federal Reserve Board (FRB) in line with the Glass Steagall Act in 1933, placed a restriction on commercial banks to pay interest on transactional deposit accounts.
This regulation also placed a ceiling on interest rates for time and saving deposits. In the 1960s, the banking industry of the U.S. began providing credits on non-interest-yielding deposits, which were used to balance out banking service charges. Thus, the banks generated value for their customers and encouraged them to avail more services by reducing service fees.
Benefits of the ECR
1. Cost control
The ECR reduces bank service charges and helps to increase a company’s operating margin and profit – eventually increasing shareholders’ value.
The ECR is applied automatically to offset bank service fees. Hence, the treasury staff is not required to intervene to execute it, which saves resources and time.
Demand deposit accounts (DDAs) with the applicable ECR provide transparency in managing cash. The balance information, fee details, and transaction details are accessible on-demand and included in the monthly account statements.
4. Liquidity management
Several companies find it difficult to forecast short-term cash, which makes instant access to liquidity critical. With ECR, customers can immediately access their funds, which makes it simpler to forecast short-term cash.
Limitations of the ECR
1. Wide variation
A wide variation exists in the ECRs that are offered to corporate clients, even with the same balances.
In the third quarter of 2018, for DDAs of $100,000, the range of ECRs between the 25th and 75th percentile was 28 basis points (i.e., 0.28%), whereas, for $100,000,000, the range increased to 71 basis points and 91 basis points for DDA balances of $250,000,000.
2. Divergent strategies of banks
Money center banks and regional banks follow different strategies for ECRs. While the four largest U.S. banks paid higher credit rates to low balance customers, regional banks paid higher credit rates to customers with high balances.
ECR is only applied on collected balances and not on floating or ledger balances. The collected balances are those that are cleared and available to invest or transfer.
Future View of the ECR
The ECR is going through a change as banks innovate to keep up with growing customer demands and market pressure. Some are trying to expand the meaning of service fees to include more banking services.
The concept of ECR is now accepted and practiced by many governments outside the U.S. It can be expanded to create benefits regardless of geographic boundaries, enabling customers to receive greater benefits from worldwide balances. Such features of the ECR will make it appealing to a wide range of companies.
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