Last week I commented on a UMass Amherst economics professor’s article in the New York Times in support of the Durbin Amendment-mandated lowering of the debit interchange rates that took place last year. Now, people write things in support of that piece of legislation all the time and I don’t usually respond to them, but what had made Nancy Folbre’s article stand out from the crowd was the fact that she had repeated a particularly egregious argument first advanced by Senator Dick Durbin – the author of the eponymous amendment. The gist of that argument, as spelled out by Dick Durbin himself in a letter to Wells Fargo’s CEO, is that the card issuers’ profits far exceed “any reasonable measure of the cost to Wells Fargo of conducting debit transactions.” So Dick Durbin, supported by Nancy Folbre and many others, was in effect telling a publicly-traded U.S. corporation how much it should charge for its services!
This morning Folbre follows up on her last week’s piece, this time dealing with the complexities of Visa’s and MasterCard’s credit card interchange structures. While I do accept her premise — the two card networks’ interchange structures are indeed hugely and unnecessarily complicated — I disagree with her conclusion that “strategic price complexity”, as she calls it, affects merchants to the extent that she claims it does.
Credit Card Interchange Structures Are Unnecessarily Complex
Interchange fees are the portion of the card acceptance fees paid by the merchants and collected by the card issuers. The other major component of the car acceptance fees are the fees charged by the payment processors. Visa and MasterCard set their interchange fees independently and update them twice a year. They are published on the two companies’ websites and the current versions can be found here and here. If you are like most people, you would have no idea what to make of these fee tables when you first looked at them, and MasterCard’s is especially confusing.
Now, in defense of the card networks, there is a good reason why we don’t just have, say, four or five interchange rates. For example, Visa’s CPS/Small Ticket interchange fee for credit cards is 1.65% + $0.04, whereas the equivalent non-small-ticket rates are 1.51% + $0.10 for non-rewards and 1.65% + $0.10 for rewards cards. The reason this makes sense is that if your average ticket amount is low, say $10 (which wouldn’t be unusual for a coffee shop), the fixed per-transaction component of the interchange rate becomes much more important that the percentage one. So a lower fixed fee benefits the small-ticket merchant. More generally, card-not-present rates are higher than card-present ones. This also makes sense, because e-commerce and MO / TO rates of fraudulent and charged back transactions are substantially higher than card-present ones and so a risk premium is justified. There are other examples and it should also be noted that the Durbin Amendment itself caused the biggest single expansion in these two lists’ histories. Still, even after one accounts for all legitimate reasons, the fact is that there are just too many interchange fees, especially on MasterCard’s list. But how much of a problem is that?
How Much of a Problem Are Interchange Fees?
Folbre’s latest piece revolves around a comment on her previous NYT post. In it, a small business owner tells us that there is no way of knowing how much he would be charged for each card payment he accepts. Here is how the merchant puts it:
You see, each card carries a different fee for the merchant. But how can a merchant ever know what the card is to ask the customer to use a different or cheaper card that carries less fees for the merchant? You can’t. There is nothing on the cards to delineate the literally thousands of types of cards and fees associated with them.
That statement is correct – there is no easy way of telling how much accepting a particular type of card would cost you. But let’s ask a different question for a moment, and one to which we do have a ready answer: how much of a difference is there between accepting one type of card or another? Let me preface my answer by noting that the vast majority of interchange rates in the two networks’ lists do not apply to this particular merchant, and that is the case with every merchant type.
So let’s use Visa’s table – I know, I’m taking the easier route, but let’s keep things simple. The rates to which Folbre’s commenter should pay attention are all to be found on page four (there might be some exceptions if the odd customer decided to use a commercial type of card, but these would be very rare), and even there most of the rates do not apply to his type of business. The vast majority of this merchant’s Visa credit card transactions would be processed at one of these two interchange rates: the one for rewards cards — 1.65% + $0.10 — and the one for non-rewards cards — 1.51% + $0.10. As you see, the difference between these two rates is a grand total of 14 basis points! To put it another way, if in our example the merchant’s average ticket amount is $75 — and it may well be lower than that — the difference between a rewards and a non-rewards card would be 10.5 cents! That is what the huge problem is about.
I think that MasterCard and Visa have only themselves to blame for the outrage over their interchange fee structures. Even if the two networks could offer a reasonable explanation for the multitude of rates on their lists — and they may well be able to do that — the fact would remain that regular people would still be able to make neither head nor tail of it all. And — as Folbre’s commenter makes it clear — when people don’t understand what is going on, they are very likely to feel cheated. So yes, whether or not their complexity is justified, interchange tables need to be downsized.
Image credit: Philip Taylor PT.