Putting money into a savings account only to earn back a cent a month in interest is boring and though it creates security, it does not have the same thrill as putting money into a draw, like a lottery, that could yield huge returns. As such a study found 40% of Americans are unable to come up with $400 in the case of an emergency, despite the average household spending $640 on the lottery every year.
The excitement of receiving a prize means people choose not to save, but if saving reaped rewards, people would be more inclined to do so says Adam Moelis, Co-Founder and CEO of Yotta. Having previously worked as an investment analyst in the Multi-Strategy Investing Group at Goldman Sachs and as a Product Manager and Data Analyst at YipitData, where he built a mobile app for consumers, Moelis is now in charge of a financial technology startup whose mission is to help Americans become more financially secure by offering a unique banking experience that allows customers to win weekly prizes of up to $10million.
Speaking to The Fintech Times, Moelis explains how challenger banks can make saving fun and encourage people to put money aside in case of an emergency, rather than betting on a 1 in >100 million chance of winning the lottery:
The average American is in a financially vulnerable position. 40% of Americans are unable to come up with $400 in the case of an emergency. 25% of Americans have no emergency savings at all.
We’ve all heard of the rule of dedicating 10% of our income to an emergency fund in case of unexpected necessities, but it’s difficult to grasp how hard it can be to reach that level safely. A significant amount of lower and middle-class income is spent on household necessities, further exacerbated by record level inflation spurred by the covid-19 Pandemic leading to exorbitant prices on food, gas, housing, and more. Americans are in desperate need of a way to bring themselves out of their current financial state.
While this has led to many searching for new jobs or pursuing cheaper alternatives to everyday items, one method is widely popular yet financially a horrible decision – the lottery. The average American household spends $640 on the lottery every year, totalling over $80billion. Yes, despite not being able to come up with $400 in the case of an emergency, the average household spends over 1.5 times that on lottery tickets every year.
Why do people play the lottery? After all, it’s almost a guaranteed loss. Statistically speaking, you can only expect to win around 50% of the money you put in back in prizes, meaning that you’re essentially losing half of every dollar you spend. But the lottery provides an experience that saving money can’t: Hope. Excitement. Even fun. With saving, there is no short-term reward. Placing your money in a savings account earning 0.01% interest and has a 0% chance of changing your life. With the lottery, however, even though it’s an extremely small chance, you have a chance of winning enough money to permanently alter your financial state.
State lotteries love to take advantage of that hope. The lottery is extensively marketed in lower-income communities to play on these feelings and coerce people into playing the game. Even if it’s only a couple of dollars on tickets a week, over the course of one year, five years, or ten years, the money put aside would have started to alleviate the savings issue.
Most don’t interpret ideas of high reward without high risk. Whether through lotteries, casinos, or even the stock market, there always seems to be a catch when it comes to where these rewards come from (and mostly, it’s coming from your pocket). The concept of prize-linked savings, however, is attempting to change that idea. Prize-linked savings is the concept of rewarding users for saving money rather than spending it. Instead of a bank paying a flat interest on your savings, they pay that interest rate back in lottery-style prizes to its users. Some win big, some win small, but you can still scratch the same itch as playing the lottery with zero risk. Every dollar you started with is still there in an FDIC insured account.
The concept of prize-linked savings has been widely adopted in countries like the United Kingdom. The Premium Bonds program is utilised by over 23 million people, helping them save billions of dollars every month. With the popularity of such programs overseas, and with the severe amount of money spent on the lottery each year, why has America been so slow to adopt something similar?
Despite being a first-world country historically known for innovation, the US has been slow to act on many modern financial concepts. The regulation around the banking and gambling sphere has made building in the space incredibly difficult. Large institutions and lobbyists have been resistant to changes that can alter the previous ways of doing these things, but challenger banks (also known as neobanks) are coming in and attempting to disrupt the ways in which we spend and save money.
When you think of a bank in your head, what do you picture? Maybe you think of a large multinational chain led by professionals in suits. Perhaps you think of the place you lock up your money only to gain a cent or two in your account every month as “interest” on your savings. There’s one factor, however, that you probably value more than any other flaw you might see in the model: trust. You think that since the institutions have been around for hundreds of years or more, you know that if you deposit money with them, it’s guaranteed to be safe. If there’s ever an issue, you know that you can walk into a branch and talk to one of the suits and have your problem fixed.
Contrarily, challenger banks come onto the scene with the pros and cons reversed. They’ve built experiences that live almost entirely online. They operate with extremely low overhead. They offer the same safety and FDIC insurance that the big banks offer, and they are able to offer interest rates anywhere from 10x to 50x as high as a traditional bank. Yotta, for example, pays on average close to 1.5% on savings by utilising the prize-linked savings model mentioned previously.
There’s one thing that challenger banks don’t yet have, though, and that’s the widespread trust that comes with being the institution that you, your parents, their parents, and even their parents have worked with since banks have existed. So, despite the challenger bank model coming with significant advantages, not everyone is ready to trust the idea of a completely digital bank, even though the high yields and compound interest they provide may be the key to a safe way of achieving financial security.