Credit card interest rates and other features are only partly driven by factors such as the Reserve Bank of Australia’s (RBA) cash rate. Other factors, such as interchange fees (the fee paid by a merchant to the bank of a customer when the customer uses a payment card to pay for goods or services) are extremely important. These fees are the subject of increasingly stringent regulation that is restricting the development of the credit card market and harming consumer welfare.
Innovation in the credit card market is being harmed by regulation. This is not just the development of new products, but also new consumer protection measures such as fraud prevention.
Interchange fees deliver significant benefits to merchants represented by an increase in sales, a guarantee of payment, and a shifting of the problem of credit risk to financial institutions. These benefits are reduced by regulation.
Revenue streams for card products have been changing over the years even in the absence of regulation. There is evidence that regulation has further affected the balance of these revenue streams, forcing financial institutions to raise fees and rates to make up for lost revenue from capped revenue streams. Meanwhile, the RBA’s intention to shift payments from credit cards to debit cards and to EFTPOS has not been achieved. The RBA’s efforts amount to social engineering and interference in a functioning market that have not only failed but are unjustifiable in a liberal market-based economy.
Cardholders benefit from costs associated with the provision of credit, including interchange fees. Interchange fees facilitate access to credit, and thereby access to capital.
In recent years, cardholders have been paying more for their cards, the cost of using cards has gone up for consumers but declined for merchants, and merchants have received windfall profits but have not passed on the savings to consumers.
The RBA’s proposed further regulation of interchange fees will have several negative effects that can already be foreseen. It will likely continue the process of shifting costs from merchants to consumers, not just increasing interest rates and fees, but also reducing interest-free periods. It is also possible that the regulations will have a particularly heavy effect on the poorest consumers.
Smaller banks will also have reduced capacity to offer low-cost cards.
This brief survey of the available evidence from around the world suggests that interchange fee caps not only place upward pressure on credit card interest rates, but also have a variety of additional effects that decrease overall welfare. We hope that the Senate will take all of these aspects into account.
In particular, we recommend that the Senate inquiry should report that
i) No action should be taken to impose an interest rate ceiling on credit card products
ii) Legislation be introduced to forbid the RBA from imposing any further counterproductive caps on interchange fees, and preferably to direct it to remove the existing caps
iii) The RBA should be mandated to consider the effect of any further regulation of credit cards on access to credit for the poor and on community-owned banks
iv) The RBA be instructed to end its social engineering project on approved forms of payment and allow the market to develop according to consumer demand.