Tuesday, February 15, 2011

Keep credit card pricing simple: Neither consumers nor merchants should be forced to pay more

Currently in Canada there is a controversy surrounding what merchants are charged by Visa and MasterCard to process credit cards, and in particular the higher charges for 'premium' cards. As this article points out, the head of the Competition Bureau thinks that it is ridiculous for the credit card-companies to think they are being pro-consumer.

I agree, but I think some issues in this controversy are being missed in the news reports.

The problem is that Visa and MasterCard have 'premium' lines of credit cards that typically give consumers high-valued benefits. That is fine. The problem however, is threefold: 1) Merchants have to pay higher fees when consumers purchase with these cards; 2) Merchants are not allowed to opt-out of these cards; if they accept Visa at all, they must accept the high-fee and low-fee ones; 3) This fact is largely hidden from consumers; all consumers see is the 'Visa' or 'MasterCard' brand.

Everybody knows that American Express often charges more. But merchants don't have to accept Amex, and consumers know that fewer merchants do so.

To me there are three key rules to solve this controversy:

1. If Visa or Mastercard want to have premium brands, they should not call them Visa and Mastercard, and merchants should be able to choose whether or not to accept the separately-named premium brands, just like they can choose not to accept American Express. Separate naming is essential so that a merchant can clearly on their door which brands they accept, and which brands they do not accept.

2. Merchants should continue to not be allowed to charge consumers more for using credit cards. The 'price you see is the price you pay' is a great simplification for consumers and has other benefits I will discuss below. I think this should apply to premium credit cards too; allowing merchants to charge more just for these (while not charging excess fees for 'regular' cards) would result in a lot of confusion in the market.

Many merchants like rule 1, but not rule 2. Visa and Mastercard like Rule 2 but not rule 1. To properly serve consumers, both rules need to be in place.

Some would argue against rule 2 on the grounds that consumers can always use cash. However if all of a sudden consumers had to pay a few percent more to use a credit card, many would stop using them as much. I am sure I would be one of the many to considerably reduce my use of cards; I almost never use debit cards myself now since it costs more than both credit cards and cash.

I think such reduced use of credit cards would have several unintended consequences:
  • With people carrying around lots more cash it would increase the incentive for crime, including counterfeiting, consumer pickpocketing and merchant robberies.
  • People would buy less on credit, which may be a good thing for those with debt problems, but it would likely serve to slow down the economy.
  • Merchants would have higher cash-handling costs. Remember that the costs to safely store and count cash are not zero for merchants. In fact, a cashless society where everything is done by electronically should cut merchant's administrative costs quite a bit.
So let's keep the status quo regarding fees for credit cards, and have the Competition Bureau force credit card companies to use different brand names for their premium brands, and allow merchants to opt out of them.

And while we are at it, lets make it such that paying by debit card also doesn't cost any more for consumers than paying cash. I am fairly convinced that the cost of running an electronic payments network must in fact be cheaper than running the 'physical cash' network, and the fees for the latter are paid by the merchants, the banks (which charge the merchants just like they charge the merchants for the debit card system) and, yes the taxpayers (since the government pays for the operation of the Bank of Canada, the mint, etc.)

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