How Foreign Exchange Transparency Helped Neobanks Get Ahead

Despite having dominated the way we transfer money over the past century or so, very few people actually understand how banks work. Worse still, many people have no idea how much they’re paying in lost fees when transferring overseas. This isn’t entirely by accident, and over the past decade, more people are starting to notice what a bad deal we were getting.

And this is thanks, in part, to the likes of Wise, Revolut, WorldRemit, and neobanks that are challenging the traditional approach. It seems we needed an alternative to realise the flaws of what we once were dependent upon. In a short space of time, transferring money overseas has become significantly cheaper, and faster.

The Traditional Banking Approach to Foreign Exchange

Whilst they were leisurely enjoying the monopoly they commanded over foreign exchange transactions, the lack of competition set the tone when it came to terms of service, fees, and the all-round lack of transparency.

When conducting a foreign transfer of money, traditional banks would charge a specified fee (i.e. €/£ 20). This hefty cost, which made smaller transfers redundant, was about where the transparency ended. From here, you were subject to an exchange rate margin, which is an exchange rate for your transfer that is purposefully below the market rate, so the bank could enjoy the difference. This is a fee, but it’s never declared as such. In fact, most people are unaware of its existence, let alone knowing exactly what amount was lost (or more appropriately described as “charged”) in the transfer.

Not it was common anyway, but banks could get away with claiming their service to be fee-free, yet still charge this exchange rate margin. It is a fee in effect, but it gets away on a technicality as being abstracted away from the customer.

This margin would sometimes run up to as much as 6% of a transaction, meaning a $12,000 could be lost in a $200,000 foreign property purchase. To think that it’s not declared clearly as a cost is a fault on the regulators too, and it’s been costing small businesses, investors, and expats thousands every year. It’s never been any different.

The Neobank Approach: Wise, Revolut, and WorldRemit

We didn’t know any better. That was, until challenger and neobanks came along. Neobanks had a few advantages, but their success has been nothing less than deserving. Firstly, their tech-based approach was easier as they built infrastructure from scratch, as opposed to shifting seismic legacy systems. But, it was done with intention – they realised that remote work, expats, and a generally better-connected world needed better ways of transferring money.

It’s all about minimising friction. When using Revolut, for example, it doesn’t feel like you’re handling multiple currencies. It’s made so incredibly easy to transfer between accounts – USD to NOK, for example – and even open up new currency accounts within seconds. Recipient details are created for you to share, such as an IBAN, meaning that it feels as if you have a global bank account.

But it’s not just the app-centric approach and new services that caught the eye of their globalised customers, it’s the pricing. Wise, for example, built up an immediate reputation for being exceedingly transparent. Not just the quote calculator on their website (that you can use before signing up) but each and every time you convert or send money to a different currency/country, you’re quoted a breakdown of the exchange rate, followed by any costs and what they’re for. 

People actually started to enjoy fees, because there was certainty and openness for once. They could see that, whilst they are indeed paying 0.5% on this transfer, it’s far superior to the confusing and unannounced margins at the bank.

The ability to open and close accounts down meant that they are essentially a current account – you even get sent a free spending card. This card could be spent abroad where you would get internal exchanges, which avoids foreign bank’s approach to currency exchange which again, is uncertain and likely expensive.

Comparing Traditional Banks and Neobanks

There can be a lot of different names for fees and foreign exchange margins, but it’s better to just group them into flat fees and percentage fees. Neobanks like Revolut and Wise like to take the approach that you’re getting the mid-market (the perfect) exchange rates, so any fees on top are simply, clear commission. 

Revolut have zero fees for transfers under the monthly limit and are completed on a weekday, otherwise it’s 1% (weekend). But it’s always 1% (unless you pay for a monthly membership). This makes it reliable for businesses, and still cheap. 

Wise took a similar approach, where it was always 0.5% all-in for major currency routes (no option for free transfers), though today it’s a little less fixed. Right now, it’s £0.21 to send GBP to EUR no matter the amount, and another 0.43% fee no matter the amount. So a £1,000 transfer to Euros incurs a £4.49 fee. 

However, sending €1000 from Germany to the UK through Deutsche Bank, for example, costs €15 + €1.55 SWIFT fee + €25 flat fee for third-party expenses and that’s before the exchange rate margin. What is the margin? Who knows, quite frankly. You would have to put through a transfer and see for yourself, but the amount varies from transfer to transfer. 

If the margin was a modest (for a bank) 2%, then this would mean around €61 in total fees, compared to under €5 at Wise for the same transfer. This doesn’t touch on the fact that, although it’s digital banking, it’s not quite the same clean experience.

The methods and techniques of finding the cheapest money transfer methods can be explained through understanding use cases, if speed is a priority, and essentially how much you’re sending.

Regulatory Impact

Regulations play a big role in foreign exchange fees, processes, and transparency. Rather, the lack of clear regulations should have played a bigger role, but it nonetheless contributed to the normalisation of murky transfers at banks.

The EU’s Payment Services Directive 2, implemented back in 1982, and the CBPR2 (2019) certainly does require all fees pertaining to foreign exchange to be stated. Though, banks still do not go to great lengths to give bite sized breakdowns, as you often find the information in the small print still.

Ultimately, regulations could play a bigger role, and neobank’s success came from an appetite to be transparent, not because they were forced. Their business models are designed around transparency from the ground up, as opposed to being an afterthought as per banks. It also helps when fee structures are simplified, as they are with neobanks, so communicating this information for each transfer becomes easier.

Changing customer expectations along with the high standards set by neobanks will likely push through new regulation that ups the standards for transparency. Though, this could become a threat to neobanks eventually, if it meant that banks become more focused on improving their international transfer services.

Conclusion

Besides a handful of expats and international online sellers, most people 10 years ago were not aware of the extent that banks are underperforming when it comes to foreign currency handling. Today, where economies are even more interconnected, neobanks’ disruption have helped pave the way of a well-needed frictionless path of borderless money. This was ultimately driven by neobank’s thirst for a customer-centric approach to services with unparalleled transparency.

We can expect traditional banks to react eventually with app improvements, clearer fee structures, and ultimately cheaper transfers. But, with their reliance on SWIFT and heavier infrastructure, they will likely remain one step behind nimble fintechs. A significant update in regulations could prove the stick to be a better motivator than the carrot for banks, who are ultimately focused on their debt product revenue and investments.

It’s important to set high standards as a customer of foreign exchange and not settle for what your bank offers. So far, it’s only led to complacency from both parties. Shopping around for alternatives has never been easier given the quickly improving onboarding processes, not to mention that fintechs are specialising down. It’s not uncommon to have 3 or 4 money apps on our phone to handle different transfers, savings, and currencies.