The Rising Tide of Income Volatility
It’s been almost a year since TD Bank’s groundbreaking work on income volatility in Canada. The 2017 study found that almost 40% of adult Canadians (10 million people) experienced moderate to high levels of income volatility that year. Out of the 10 million, 5 million experienced high to very high volatility while 3.3 million saw their monthly income fluctuate by 25% or more. The fluctuation in monthly income resulted from hourly pay that was not dependable, having multiple sources of income that could not be relied upon every month, or having unpredictable income from self-employment.
In their book Financial Diaries, Jonathan Morduch (New York University) and Rachel Schneider (Center for Financial Services Innovation) found that household income has become increasingly volatile for all, with low and middle income families being the most vulnerable. Organizations from the US have been studying this issue for the past few decades and have found that income volatility has become the norm rather than an outlier. The work by the Aspen Institute on income volatility has shown that the issue has been a growing problem since the ’70s. Between 1991–2004, the number of households experiencing annual shocks of $20,000 or more increased by 23%. To add to that picture, a 2016 Urban Institute study found that 25% of American families suffered from some form of income disruption in 2016.
The lack of reliable income forces families to delay reaching their savings goals, paying down their debt, and paying for necessities such as groceries and medical care. While studies on the impact of income volatility on household are lacking, studies indicate unemployment leads to diminished mental health, life satisfaction, and happiness. The health risks stemming from unemployment are on par or greater than smoking, diabetes and high blood pressure. It should be no surprise that unemployment also leads to increased mortality rates. Although income volatility is not synonymous with unemployment, it is not a far stretch to argue that there may be similar health implications caused by the stressors of income instability.
This economic shift not only impacts individual families and the communities they reside in, it also significantly impacts the national economy. Having the inability to predict month-to-month income, many are choosing not to move up the income ladder. When Pew Charitable Trusts conducted a survey of 7,000 Americans, they found that 92% of respondents chose stability over economic mobility if that mobility included greater risk. In order to secure stability and a peace of mind, more people are choosing jobs that pay less but include a reliable pay check. They are also avoiding riskier endeavours such as starting up their own businesses. In other words, increasing income insecurity also leads to receding economic dynamism as the public makes less risky choices which further reduces employment opportunities and growth.
While resolving this problem may seem daunting, helping these families and supporting our economy is becoming less challenging when you consider the increasing number of private and public sector partners that have an interest in resolving the issue. Employers are providing more predictable scheduling so that employees can more effective plan their lives, governments are adapting their unemployment insurance to support those whose hours get cut back, community foundations are implementing tools to improve the income of families in low income communities, and financial-services institutions are finding ways to better serve those who lack access to credit.
Income volatility is an increasingly pervasive issue and financial institutions are not going to thrive when a large and growing part of their consumer base have unstable income and dwindling savings. They are going to have to adapt by finding innovative ways to make banking work better for their customer in an economy where income certainty is no longer the norm. Finding innovative ways to help families cope with a changing economy that includes the rising tide of income volatility is essential to ensuring that their customers can still aspire to reach their life goals.
How can financial institutions help?
While a family may earn $50,000 a year, their monthly income may fluctuate each month. They could earn as little as $1,000 in one month and $6,000 in another month. Understanding the detailed ebbs and flows of income and expenses of a customer is becoming essential to finding meaningful solutions that will help them to better manage this volatility.
Banks will need to place more focus on gathering data that will help them evaluate the monthly income of families versus annual earnings to inform processes, products and tools being offered to customers.
Having more detailed information on customers will allow banks to create financial health metrics and provide products and services that will help them make small, incremental improvements to their financial health over the long term. As previously noted there is also a strong correlation between financial health and the overall heath of customers and their wellbeing. A healthy customer base is a long-lasting and loyal customer base.
The 2016 Urban Institute study mentioned earlier also found that a low income family with $2,000-$4,999 in savings are more resilient than a middle income family without any savings. In order to create more resilient customers, banks need to find more ways to automate micro-savings and micro-lending opportunities.
Micro-savings helps families identify small savings opportunities, including above average pay checks, that automatically get squirreled away to act as a buffer against future shifts in income. Banks can be loyal to their customers by supporting families in months where the family will be short by recommending a micro-loan to help them through the more difficult months.
Better Bank-Employer Partnerships
Most people get paid bi-weekly for work that has already been completed which presents an opportunity for banks to offer advances on secured income when unexpected or unavoidable expenses arise. If a customer needs to turn to credit to pay for a bill, that person is out of pocket for the interest they have to pay. What if their bank was able to give them an advance on the money they needed knowing that their customer had already secured pay for work completed? The technology to integrate into payroll systems already exists and could be leveraged in a manner that would change people’s lives for the better.
