Duopoly Visa and Mastercard Vs. Retailers - Who Wins in a Free Market?

Oh this should be good; I always like to watch two of the largest lobbyist groups go at it, to see who has more Congress people in their back pocket. Err, I mean... I am always interested to see how the free market works out in the end. Frankly, with the duopoly power of Visa (V)/Mastercard (MA), I'd be siding with the retailers here, but that's an outside view of someone who actually likes competition. I'd also assume more retailers are contributing to Congress people's campaigns than Visa and Mastercard ever could hope to. But then we have the financial oligarchs with their massive sway on Washington in that corner as well. Get out the popcorn.

Via Bloomberg

• Visa Inc., MasterCard Inc. and JPMorgan Chase & Co., already squeezed by new U.S. curbs on how credit cards are marketed to consumers, are girding for a renewed battle over $48 billion in fees levied on merchants.
• Lawmakers are promising new rules to bring down the interchange fee, a charge on purchases sometimes topping 3 percent that’s split by the two banks serving the customer and merchant.
• Supporters of the legislation include the biggest retail chains, restaurants and small businesses, which say the fees erode profit and inflate prices.
• The debate pits the largest card lenders including JPMorgan and the two biggest payment networks, Visa and MasterCard, against Wal-Mart Stores Inc. and Target Corp. Interchange is the second-biggest cost after payroll, Target said, and merchants want to negotiate lower payments collectively without running afoul of antitrust law. (remarkable statistic)
• “The real question is whether the government is going to jump in and get into the game of price control in the free market,” Chris McWilton, MasterCard’s U.S. markets president, told investors at a June 4 conference. San Francisco-based Visa said June 5 the legislation would raise consumer costs and cut rewards. A similar bill failed last year, the firm said. (let me chortle here at the "free market" reference, and I've been an investor in Mastercard for much of the past 2 years. See how it's been nearly impossible for even Discover to enter this fray with all the financial backing they have? Can you imagine "mom and pop transaction firm" trying to take on MA & V?)
• The Credit Card Fair Fee Act would let merchants bargain together on interchange rates and designates the Department of Justice as arbiter. Card networks and lenders would be forced to disclose components of the fee and how banks share the money.
• Interchange accounted for 19 percent of revenue last year for card-issuing banks on the Visa and MasterCard networks, according to trade magazine Cards and Payments. (again that is a remarkable statistic)
• The networks handled about 89 percent of worldwide purchases on general- purpose payment cards. (so 89% handled by two firms, and there are huge juicy profits, rather than in a true free market, where a bevy of competitors would be angling to get a piece of... since there are not a bevy of competitors we can't even begin to say with a straight face this is an open or "free" market...which is why many major hedge funds own these 2 firms - talk about a wide moat)
• Visa’s and MasterCard’s dominance allows them to “set these fees on a take-it-or-leave-it basis,” said J. Craig Shearman, spokesman for the Washington-based National Retail Federation. Shearman said interchange fees associated with the Visa and MasterCard networks tripled from about $16 billion in 2001 to $48 billion last year. (Hmm, Mr Shearman, it's a free market, why don't retailers just go to the competition? What's that? There is almost no competition. Hold on let me go check my "free market" handbook on what to do next)
• In a typical transaction, the retailer’s bank deducts 1.9 percent from proceeds of the purchase, a sum known as the merchant discount rate. The largest portion -- the interchange fee -- goes to the bank that issued the card. The bank for the merchant keeps what’s left. Interchange fees average 1.7 percent of the purchase, according to JPMorgan analyst Tien-tsin Huang. ()sounds like a good deal for banks... wait, where have I heard that before...
• Visa and MasterCard get paid a processing fee from each bank of 15 to 18 cents on a $100 purchase, Huang said in a June 5 report. MasterCard and Visa process about 58 billion transactions annually, company filings show.
• “It’s kind of unprecedented to give one industry that kind of negotiating leverage over their business partners,” she said. (not when your industry are the oligarchs of American society)
• Visa Europe Ltd. faces an antitrust complaint from EuroCommerce Inc., a retailer group that said this month that stores should be able to negotiate fees. MasterCard settled in April with European Commission antitrust regulators by reducing credit card interchange to 0.30 percent. (unfortunately banks are not royalty in Europe... only here)
• JPMorgan, Bank of America Corp. and Citigroup Inc., last year’s biggest bank card lenders, don’t detail interchange revenue. (and here I thought we had a transparent banking system?)
• “In every other aspect, merchants have the ability to negotiate and reduce their costs except this one,” said Jennifer Hatcher, spokeswoman for the Arlington, Virginia-based institute. Target lacks leverage because it’s “simply not realistic” to stop accepting cards, said Eric Hausman, a spokesman for Minneapolis-based Target

How about American Express (AXP)?

• The merchant discount at American Express averages 2.56 percent and doesn’t have an interchange component, said spokeswoman Christine Elliott. The legislation would have a “significant impact” on AmEx, which derived 49 percent of 2008 revenue from the merchant discount rate, Elliott said. (well if anyone would get hurt if this somehow gets passed it looks like AXP)

And let me guess how this ends: the banks will say if you lower our fees, you will hurt the American consumer as less credit will be available for them. See, I can almost repeat these lines in my sleep now.

But just for fun let's see what the lobbyist group of the day has to say...

• JPMorgan and Citigroup, both based in New York, referred inquiries to the Electronic Payments Coalition. “Merchants don’t want to pay their share of the interchange system and they want consumers to pay it instead,” said Trish Wexler, spokeswoman for the Washington-based group.

Repeat in your sleep - we are all doing this to protect the consumer. We have the consumer in our heart. Our intention is to protect the consumer. Our lobbying dollars go to protect the dear consumer. Zzzzzz.

And since I always love to sneak a peak, lets see who the top campaign contributions went to via the Electronic Payments Coalition for the "help to educate our lawmakers on pertinent issues." I took a look. Bummer we can't tell - the money that went to "EPS" went to 3 lobbyists firms, who then worked their magic on a variety of programs commingling "EPS" money with countless others. So trying to break out which money went to whose campaign fund is impossible. Another victory for our oligarchs... they know the system, and how to cover their trails. However, all 3 firms have similar language on their websites - education!

Clients rely on us to educate policymakers on a wide array of legislative and regulatory matters. Our seasoned professionals understand how the Washington policymaking, political and business communities operate.

I pulled up one of the 3 firms the "EPS" gave their money to, (Johnson, Madigan, Peck, blah blah) and boy it's a whose who of firms they represent - I have to tell you there is a growth industry here!

• Accenture
• Altria
• Amgen
• AstraZeneca
• American Institute of CPAs

Holy smoke - just there we have some of our largest lobbying sectors - the accounting/consulting guys, healthcare, and tobacco. And I haven't even gotten to the Bs! The same old names are there, farther down the alphabet don't you worry

• Deloitte & Touche, Fannie Mae, Lockheed Martin, Mastercard, Mattel, Merrill Lynch, Microsoft, NYSE, and many others.

And this firm does not even make the top 20 of largest lobbyist firms in 2008. I am glad there is one surefire growth industry in America that creates jobs. I still remember the naive ways I was taught in middle school "and that boys and girls is how a law is passed"

Comments

[gpatrick:]

Maybe you could answer me some question. I am not siding with the card companies either.

I always thought it was the merchant provider not Mastercard/Visa that sets the fees. There is also a merchant discount. The Card companies claim they can work with the merchant provider to change fees or basically shop around for another merchant provider. So, are the merchant providers refusing to work with the merchant? What about the merchant discount?

As for as refusing cards. They could, by just taking pin based debit card, Since it looks like the U.S. is moving more toward debit cards Systems can be programed to recognize pin based debit cards. So, the transaction could be cheaper for them. However, you still have to give consumer the choice to run their card as a pin(Debit) transaction or a Signature(Credit) transactions for their debit cards. All methods come out of you checking account. A few banks charge people for pin transactions.

Jun 19 09:17 AM

[dkold:]

MasterCard and Visa set interchange rates and other various fees that are not negotiable. These fees are passed through to the merchant in their merchant discount fee. So, in essense, there is a "floor" to the cost of card acceptance. And that floor is getting more expensive all the time. The card brands and issuers are spending a lot of energy getting the industry to focus on the merchant discount just to take the eye off the true issue which is the non-negotiable nature of interchange.

There is also a lot of effort put into getting the customer to sign for a debit transaction rather than using a pin. To your point, issuers may charge for the transaction. In addition, if there are rewards on a debit card they are generally offered only if the customer signs. Visa also has found a creative way to suppress pin usage in the world of contactless transactions. They have a rule that requires if a contactless debit transaction occurs that it must be with a signature. If a retailer attempts the transaction with a pin the transaction will be declined.

At the end of the day, we have become an electronic payment society and most retailers need to accept whatever payment type their customer wants to use. Because, at the end of the day, the retailer is competing for the end consumer and wants to do all in their power to make it a positive experience. The card brands are busy competing for banks thereby raising interchange costs for merchants while making sure that consumers don't have visibility to a fee that ultimately gets passed on to them.


On Jun 19 09:17 AM gpatrick wrote:

> Maybe you could answer me some question. I am not siding with the
> card companies either.
>
> I always thought it was the merchant provider not Mastercard/Visa
> that sets the fees. There is also a merchant discount. The Card companies
> claim they can work with the merchant provider to change fees or
> basically shop around for another merchant provider. So, are the
> merchant providers refusing to work with the merchant? What about
> the merchant discount?
>
> As for as refusing cards. They could, by just taking pin based debit
> card, Since it looks like the U.S. is moving more toward debit cards
> Systems can be programed to recognize pin based debit cards. So,
> the transaction could be cheaper for them. However, you still have
> to give consumer the choice to run their card as a pin(Debit) transaction
> or a Signature(Credit) transactions for their debit cards. All methods
> come out of you checking account. A few banks charge people for pin
> transactions.

Jun 19 11:11 AM

[PaymentsGuy:]

gpatrick: the merchant processor sets only a small piece of the total merchant fee. Interchange is by far the largest piece of merchant costs. It is set by the card brands (V,MC) and processors have no ability to change it. When negotiating processing, merchants can only affect the processor’s markups and fees.

Merchants have some good points. The fees are essentially take it or leave it, seem high, and change in an apparently arbitrary manner. But don’t wave off the other side as “big bad banks and their monopolistic buddies.”

Interchange is not a "hidden fee on consumers" any more than the cost of employee salaries or the cost of electricity is a hidden fee. Merchants sign detailed contracts that clearly disclose pricing and receive detailed statements that show what they paid and why. Interchange is a completely transparent, fully disclosed set of fees which merhants pass on to consumers as a cost of doing business. Only in limited cases, such as fuel, is there so little price elasticity that this is a huge problem. The argument that interchange harms consumers is dubious; it only hurts them to the extent that prices would be lower in its absence. We can safely assume that retailers will not lower prices if they get lower rates.

Merchants also downplay the enormous value they receive. Consumers like cards, shop where they are accepted, and spend more when they do. By taking cards, merchants pay 2% to get guaranteed funds, often overnight. The cost of handling checks is larger, settlement is slower, and the merchant assumes the risk of bad funds. Even cash has a significant handling cost (those armored cars don't show up for free) and is prone to loss and error.

Further, merchants increasingly accept American Express, despite its higher cost. They do this voluntarily, despite the fact that they would turn away very few customers by not doing so (how many AmEx cardholders don't also have a V or MC?). If they receive no benefit, they should drop AmEx, right?

There should be room for compromise here. I’m not saying that interchange is not too high, card acceptance rules are not too restrictive, or that the rate setting mechanism is not maddening. But when merchants call it a “hidden tax”, claim they receive no real benefit, and try to make it a consumer issue, they are being more dishonest than their adversaries.

Jun 19 11:55 AM

[TraderMark:]

Good comments on both PaymentsGuy and dkold, thanks


On Jun 19 11:55 AM PaymentsGuy wrote:

> gpatrick: the merchant processor sets only a small piece of the total
> merchant fee. Interchange is by far the largest piece of merchant
> costs. It is set by the card brands (V,MC) and processors have no
> ability to change it. When negotiating processing, merchants can
> only affect the processor’s markups and fees.
>
> Merchants have some good points. The fees are essentially take it
> or leave it, seem high, and change in an apparently arbitrary manner.
> But don’t wave off the other side as “big bad banks and their monopolistic
> buddies.”
>
> Interchange is not a "hidden fee on consumers" any more than the
> cost of employee salaries or the cost of electricity is a hidden
> fee. Merchants sign detailed contracts that clearly disclose pricing
> and receive detailed statements that show what they paid and why.
> Interchange is a completely transparent, fully disclosed set of fees
> which merhants pass on to consumers as a cost of doing business.
> Only in limited cases, such as fuel, is there so little price elasticity
> that this is a huge problem. The argument that interchange harms
> consumers is dubious; it only hurts them to the extent that prices
> would be lower in its absence. We can safely assume that retailers
> will not lower prices if they get lower rates.
>
> Merchants also downplay the enormous value they receive. Consumers
> like cards, shop where they are accepted, and spend more when they
> do. By taking cards, merchants pay 2% to get guaranteed funds, often
> overnight. The cost of handling checks is larger, settlement is
> slower, and the merchant assumes the risk of bad funds. Even cash
> has a significant handling cost (those armored cars don't show up
> for free) and is prone to loss and error.
>
> Further, merchants increasingly accept American Express, despite
> its higher cost. They do this voluntarily, despite the fact that
> they would turn away very few customers by not doing so (how many
> AmEx cardholders don't also have a V or MC?). If they receive no
> benefit, they should drop AmEx, right?
>
> There should be room for compromise here. I’m not saying that interchange
> is not too high, card acceptance rules are not too restrictive, or
> that the rate setting mechanism is not maddening. But when merchants
> call it a “hidden tax”, claim they receive no real benefit, and try
> to make it a consumer issue, they are being more dishonest than their
> adversaries.

Jun 19 01:15 PM

[Free Market...:]

Also don't forget here, that the banks use the interchange revenue to cover the costs of points and rewards programs. Typically, customers are getting about 1% of purchases back on rewards/cash back cards. That allows the banks to continue offering these programs to the high spend customers who pay off each month and don't pay any interest. So, it would appear from the numbers above, that a little more than half of the interchange is going back to the increasingly popular rewards card customer.

Jun 19 02:59 PM

[User 434207:]

There is a neat interchange-rate mashup available at freakonomics.blogs.nyt.../

Jun 19 04:50 PM

[User 434207:]

A few years ago Diamond Consultants did an analysis of how the issuing banks spend their interchange revenues - 44% go to rewards programs and only 13% goes to cover processing costs. I have no opinion on whether that mix is reasonable, or if interchange rates are too high or too low, but it is a very interesting report if you are interested in this topic. I posted a summary to the TransFS blog. transfs.com/blog/2008/.../

The original document was removed from the Diamond website but is available at the internet archive / wayback machine - web.archive.org/web/20...

Jun 19 05:08 PM

[Mandate Man:]

Great comments by everyone. Some things I have to add:

To original post, yes the merchants have ultierior motive: its to put cash back into the cash/check/debit customer's hands so they can spend more! Call it a "tax" reduction; with all the well known stimuli surrounding such things. Yup, merchants win and so do ALL consumers through lower prices.

Rewards. Great white paper done by Fumiko Hyashi at the KC Fed, deducing that rewards probably aren't benefiting society. I have always contended, just because I get 1% on my Discover I don't buy more gas, groceries or anything else. Consumption is defined by your income and credit line (which we know is sometimes not appropriate). Rewards can only "bend" this line to the value of the rewards - like the $300 you get back.

Fun facts -
* Visa now processes over 70% of all debit transactions?
* PIN debit interchange has risen 14% CAGR sinced 1996 (within 2 years of Visa buying Interlink and releasing the signature debit product) - faster than credit interchange?
* 22 other developed countries have recognized V/MC market power and moved to reduce interchange?
* US pays more interchange than any other developed country - about 60% of what is globally collected. We also have the highest interchange rate of ANY tier 1 or 2 country?

THAT is what a strong lobby buys you in America.

Jun 20 11:33 AM

[TraderMark:]

You wrote:

US pays more interchange than any other developed country - about 60% of what is globally collected. We also have the highest interchange rate of ANY tier 1 or 2 country?

I believe the EU just came down hard on Mastercard and now is going after Visa for these rates - MA agreed to 0.3 (I believe, I am going off memory and might be mixing things up)

It's just two very different sets of ideaologies - I think both have pros and cons. Here we claim things are free market (even when GE's Immelt says the US is never a free market, and he positions GE to go where the government is) yet under the guise of this claim allow oligopies. Whereas in Europe they seem to be more concerned for the consumer but of course have their drawbacks there as well.

I am sure there is a happy medium, but it will never be reached in the US with the growth of lobbyists as a dominant force even versus a decade ago.

Jun 20 03:45 PM

[E Nuff Sed:]

I agree that these monopolists should be sued.
Why don't the retailers get together and give a discount (i.e. 2 or 3%) for people who pay cash or debit?

Jun 20 10:41 PM

[TraderMark:]

I see that in gasoline, for example usually 10 cents off at station if you pay gas over credit


On Jun 20 10:41 PM E Nuff Sed wrote:

> I agree that these monopolists should be sued.
> Why don't the retailers get together and give a discount (i.e. 2
> or 3%) for people who pay cash or debit?

Jun 21 07:04 PM

[Ak talukdar:]

180 calls for july 09

Jun 24 11:51 PM