According to the Wall Street Journal, it appears that Senator Chris Dodd (D-Conn.) wants people to start taking more money out of their bank accounts.  In particular, bank accounts which are empty.  While I know the government withdraws from an empty treasury all the time, there is precious little reason to think that doing the same is a good idea for the rest of us.  What it really appears is that Dodd wants to create a sort of back door by which individuals who probably couldn’t get loans in the traditional way are nevertheless able to access and spend more money than they have to their name.

While overdraft fees are well known to make people who get hit with them grumble, the reality is that they serve an important economic function.  From the perspective of the consumer, overdraft fees are, first and foremost, as sort of punitive damage incurred when the consumer withdraws more money than he has to his name.  While an overdraft fee can certainly put a cramp in someone’s day, an FDIC study reports that the fees are seldom onerous, ranging from $10 to $38 per infraction, with a median of $27 per overdraft.  A full 3/4 of the population will not incur any overdrafts at all over the course of a year, and only the most elite group of bank abusers, those with 20 or more overdrafts in a year, will average more than $1,000 in fees annually.  Of course, all of these fees are 100% avoidable.

More importantly to the legislation at hand, overdraft fees represent a compromise between consumers, banks, and retailers.  The vast majority of overdraft fees are incurred during debit card transactions or from writing bad checks.  In other words, the fees come from people spending money that they don’t have to purchase goods or services in situations where neither the vendor nor the bank necessarily know that the consumer has insufficient funds.  In the world of banks, where vendors are unable to receive any information from the bank while the customer is still present, most retailers charge a bounced check fee, if they’re willing to accept personal checks at all.  Debit cards, which either bounce immediately or not at all, remain widely accepted because vendors know that payment is guaranteed.  The guarantee on that payment, however, comes from banks, through overdraft protection.

If overdraft protection is opt-in, then much of the benefit attributable to debit cards will go away.  The overdraft system works in part because it is so wide spread and dependable.  The clear intent of this proposed legislation, however, is to make it less wide spread.  If debit cards become unreliable, retailers will stop allowing them, much as they have stopped allowing checks.  Banks, to ensure the same level of reliability, may find themselves pressured to allow debit card users to fall below zero balance in their accounts, effectively turning the debit system into a credit system — in particular, a credit system for low income people who likely couldn’t get credit through normal channels.  Consumers, no longer affected by the significant incentive overdraft fees provide to stay within their means, will become more likely to allow their balances to fall sub-zero, at least for short periods of time.

In all, this move strikes me as yet another example of Congress trying to encourage people to spend money they do not have, remove culpability for those that do, and set up private banks for future failure.