As another major contretemps between
merchants and the card associations threatens to introduce further
volatility into the US payments market, the only thing certain is
uncertainty, writes Charles Davis
The US market is a payments world turned
upside down. As the impact of Durbin has started to become
apparent, further strains are beginning to show.
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This time the dispute centers on the “swipe
fee” that retailers pay on credit card transactions – a fee that
was not touched by last year’s Durbin amendment — and it has
generated a class action antitrust action brought by some five
million US retailers against the major card associations and the
nation’s 13 largest bank issuers, including such Citigroup, Bank of
America, JP Morgan Chase and US Bancorp. It is an argument that
threatens to upend the status quo in payments once again.
The retail sector contends that any savings
from lower debit card fees that are being realised in the wake of
Durbin are being at least partially offset by rising credit card
swipe fees imposed by the card industry.
While estimates of the potential cost of
settling the antitrust case vary from a few billion dollars to
hundreds of billions, none is less than eye-popping.
The bigger worry is that a settlement or
judge’s ruling could take the two percent interchange fees US banks
and card companies charge retailers on credit card transactions to
as low as 0.5 percent – a rate equal to that of Australia, but
still higher than the 0.3 percent charged in the European Union,
according to a report by Sanford Bernstein analyst Rod
Bourgeois.
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By GlobalDataThe lawsuit is reminiscent of the1996 class
action lawsuit led byWal-Mart Storesand Limited Brandsagainst Visa and MasterCard.
The settlement in that case included more than USD3 billion in
monetary damages, as well as changes in industry polices and
business practices that cost the industry billions more.
“When I started working in the merchant sector
eleven years ago, this was issue number one, and it still is
today,” says Jeff Lenard of the National Association of Convenience
Stores, one of the major forces on the merchant side of the fight.
“From the retailer’s perspective, the rates are among the highest
in the industrialised world, and in industrialised countries where
the state has inquired, regulated or led self-regulatory efforts,
rates have fallen.
“All we are asking for is a fair shot. We know
that the associations and the banks have to make a buck, too.”
“Wildly chaotic
environment”
Between 2004 and 2011 while the price of
gasoline went up 80 percent in the US, card fees increased 180
percent – even though the cost of providing the actual “swipe”
electronic transactions has been going down, according to NACS.
That is the heart of the retailers’ argument.
Robert S. Skattum, COO of PE Systems, a
consulting and advisory firm specialising in the area of reducing
and managing payment processing costs, says that the litigation
over credit card interchange rates is yet another variable in a
wildly chaotic environment for payments companies and
merchants.
“Durbin should have been a wakeup call,”
Skattum said. “Nobody figured out until the very last minute that
this thing could pass and could drive you down a slippery slope.
And then everybody tried to derail it and did so at a really bad
time to argue our perspective.”
Skattum says that the punditry would have you
believe that changes to the US payments landscape began with the
enactment of Durbin, but a closer look shows that for several years
now, the focus on regulatory changes have obscured other forces,
from the macroeconomic picture to merchant unrest, through to the
emergence of alternative payments technologies.
“It is the unintended consequences of the
regulation that have introduced a great deal of uncertainty and
volatility,” he said. “In a lot of cases merchants only loosely
understand what their payments-related costs are, and they see it
as a case of ‘lower my interchange and you’ll lower my costs,’ when
that is not necessarily so.”
Mis-shapen cogs
Just nine months after Durbin’s provisions
kicked in, two central cogs of retail banking revenue – debit
interchange and overdraft fees – have been fundamentally altered,
and with them the consumer banking products behind them.
These changes are reshaping the US debit card
landscape and will continue to drive changes to retail banking
relationships, checking account and fee structures, and debit
payment network economics.
As post-Durbin fee structures shake out, the
response will have much to say not only about the future of debit
cards in the US, but also the shape of the credit card and prepaid
card markets, says Neil Marcous, president of the NYCE Payments
Network, who views Durbin as a catalyst for change.
“Durbin has had a huge effect on the payments
market, of course, but what’s even more significant is the
emergence of mobile devices and cloud-based payments solutions that
could allow us to reduce operating costs significantly and pass
more of the costs of payments on to the merchants who are trying to
sell the product, at the end of the day,” he says.
“It has actually served as a catalyst for a
lot of innovation, and we suddenly see a world where there is no
need for constant upgrades, hardware replacement programmes and
navigating cross-border functionality issues. You just give them an
applet and all the logistical stuff takes place in the cloud.”
For merchants, it is clear now that Durbin’s
anti-exclusivity provisions effectively act to transfer control of
routing decisions from issuers and networks to the merchants
themselves.
For PIN debit networks competing for the
issuers’ business, the Durbin amendment largely rules out competing
on rates, so networks must create other benefits to lure new
portfolios.
Some retailers have enjoyed a boon from the
sudden drop in interchange fees, but small ticket merchants – even
those with massive volume, such as Netflix – have been hurt because
they no longer benefit from special tiered pricing.
Evident impact
There is no doubt that the cap having an
effect on interchange. Average debit card interchange fees charged
by issuers subject to the Federal Reserve’s interchange fee cap
fell in the fourth quarter of 2011 to 24 cents, compared with an
average of 43 cents prior to enactment of the rule on 1 October,
2011.
And there’s no doubt that it is wreaking havoc
on the bigger issuers. An analysis of Federal Reserve data by card
comparison site CardHub.com estimated that debit card issuers with
assets of over USD10 billion are losing USD8.06 billion a year from
regulations implementing the Durbin Amendment debit interchange
cap. The site projects that debit card issuers with assets of below
USD10 billion are losing USD329.4 million per year.
The Fed’s report highlights one of the major
issues for Durbin: the savings generated by the act are not making
their way back to consumers or small merchants, because independent
sales organisations have chosen not to pass along the savings.
The American Bankers Association’s response
put it bluntly:
“While retailers pocket $7 billion annually
from lower interchange costs, their customers pay higher fees as
institutions adjust to government-imposed losses in revenue,” they
said.
“At the same time, many small businesses now
face higher interchange rates for low-dollar transactions, a
classic example of strange things that occur when government
creates unnatural pressures to make up for lost revenue.”
Odysseas Papadimitriou, CEO of CardHub.com, says the post-Durbin
landscape is one marked by pressure on the bigger issuers to recoup
lost revenue.
“The number one thing is that banks have been
trying to replace a USD9 billion hole in revenue thanks to Durbin,
and merchants aren’t going to plug that hole, so they are turning
to consumers,” he says. “Whether they can recoup that sort of
revenue without alienating consumers is the great question of the
day.”
Point of no return
Papadimitriou says the industry is nearing the
point of no return: a financial scenario where credit card rewards
end up on the chopping block.
“Merchants are getting really greedy, and it’s
going to backfire,” he said. “They are pushing and pushing, and
when they push too far, they’ll rue the day, because these are
collaborative ventures that require some work on all ends.”
CardHub’s analysis of the effect of Durbin
found that although the Durbin Amendment has decreased the amount
that large banks can charge in interchange fees, loopholes within
the legislation will significantly diminish its impact for both
merchants and banks over time.
Given that banks are subject to these
restrictions but not networks, banks will be collecting less in
fees while paying unrestricted fees to those networks.
It is unlikely that major banks will allow
their revenue to decrease significantly, so Papadimitriou predicts
that they will make up for lost revenue by increasing monthly fees
and minimum balance requirements, and making debit card reward
programmes less appealing.
Since prepaid cards are exempt from these
regulations, it is also likely that major banks will begin to
introduce these offers and encourage customers to switch from
checking accounts to prepaid cards, especially given the constant
convergence of these two products. Capital One, Wells Fargo,
JPMorgan Chase and Regions Bank have all launches low-cost prepaid
cards recently.
Small banks’ exclusion from this legislation
makes it likely that their interchange fees will rise over time,
thus allowing them to have more competitive products than bigger
banks. These banks currently hold a relatively small market share
of 15 percent, which will allow the gradual increase of their
interchange fees to go unnoticed. As the fees continue to rise, so
will the appeal of their offers, and in turn their market shares.
As the use of small bank debit cards increases, the benefit of this
legislation to merchants will be significantly diminished.
“One of the most interesting things to watch
is whether the smaller institutions free from Durbin’s restrictions
can take advantage of this opportunity,” Papadimitriou says. “Big
banks have scale, consumer presence, and more functionality in
mobile and online which is really huge. These functionalities cost
about the same amount of money whether you have millions of
customers or tens of thousands.”
Now, issuers, associations and merchant
expressing concern over whether the industries can reconcile and
work together effectively. That has never been more important than
it is in these early days of mobile payments, with banks and
payments networks having to fend off the outsiders encroaching on
their business.
Long-pending merchant lawsuits over the
interchange system for credit cards have banks and card networks
bracing for a potentially expensive resolution and make it unlikely
that the fighting will stop anytime soon. The friction could stymie
the payment industry’s bigger plans for growth, as well as its
efforts to protect itself from other powerful companies looking to
muscle in on its profitable turf.
This means that merchants and payments companies must move forward
and re-examine the nature competition, NYCE’s Marcous said. And
merchants eventually are going to have to come to grips with the
fact that mobile payments are going to require shouldering the cost
of upgrading card readers to the point of sale.
“The whole nature of security, where the
industry can go and the nature of competition in this market, is
all open again,” he said. “To move forward, we must be willing to
work together even as these issues remain unresolved.”
