Payment Card Networks Under Assault
How Capping Interchange Fees Will Hurt Consumers, Charities, Community Banks, and Credit Unions
In recent years, the use of credit and debit cards to purchase goods and services has surged in the United States, and American consumers pay with “plastic” now more than ever before. The growth in popularity of payment cards has benefited greatly both consumers and retailers. Innovations in electronic payment networks have improved the efficiency of business transactions, enabled seamless and secure digital commerce, and provided consumers with valuable tools for saving money and managing personal finances.
The modern payment card system requires significant private investment. Payment card networks and credit and debit card-issuing banks collectively spend tens of billions of dollars annually to combat fraud, ensure the smooth operation of payment systems, and develop new tools for merchants and cardholders to track and monitor transactions. Card networks and card-issuing banks fund these investments by charging interest on credit card balances, assessing various cardholder and processing fees, and retaining a small percentage of payment card transactions.
Despite this success story, both houses of Congress are now considering legislation that would inject government into a central role in the setting of fees and rules for payment cards. Several major retailers are waging a lobbying campaign aimed at persuading lawmakers to support government controls on interchange fees—the fees that card-issuing banks retain for the services they provide in payment card transactions. Retailers blame interchange fees, which typically amount to around 1.75 percent of payment card transactions, for allegedly resulting in higher prices for consumers while making it harder for struggling merchants to stay afloat.
Contrary to retailers’ claims, a body of economic and empirical evidence indicates that government intervention in the setting of interchange fees would hurt consumers, undermine efficiency in commercial transactions, and stunt innovation in electronic payment networks. Retailers also overlook the role of interchange fees in sustaining cardholder rewards programs, which have become quite popular among consumers in recent years, because they increase consumers’ buying power.
Government intervention in interchange fee setting is not unprecedented. Australia imposed stringent fee controls in 2003 for many of the same reasons which retailers say justify regulation in the United States. The results have not been pretty. Australian consumers now face higher annual cardholder fees, while they have not benefited from the price reductions promised by retailers. Consumers in Australia now shoulder a greater portion of the burden of card processing, while retailers have largely pocketed the savings. Additionally, Australian banks have limited the scope of rewards programs. If the Unites States follows Australia’s path, American consumers stand to face higher costs and reduced benefits.
To the extent that the current market for payment cards is insufficiently competitive, government regulation of card-issuing institutions, not interchange fees and payment card industry practices, is to blame. If Congress wants to advance consumer interests, it should reject proposals to regulate interchange fees and instead focus on reforming laws that distort natural market arrangements in the payment card market.
The payment card system is a complex one that involves not only merchants and consumers but also payment card networks and financial institutions from banks to credit unions. The marketplace for credit and debit cards is vibrant and competitive, and its innovations have been a boon for consumers and merchants alike. At a time when the U.S. economy is recovering from one of the worst recessions in decades, for government to intervene in this well-functioning market would have serious unintended negative consequences for consumer welfare.