WSJ Op-Ed: Regulation Of Debit Card Fees Hurts Consumers

WSJ Op-Ed: “Many-Low Income Consumers” Will Be Hurt By Regulations On Debit Card Interchange Fees. From a September 30 Wall Street Journal op-ed by Todd Zywicki:

This Saturday, government price controls on debit card interchange fees (which card issuers charge to merchants) go into effect. The controls are the result of the Durbin amendment to last year's Dodd-Frank financial reform legislation. They were enacted at the behest of big-box retailers such as Wal-Mart and Walgreen's, which stand to gain a multimillion-dollar windfall. But the controls are already transforming the retail banking landscape.

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Faced with a dramatic cut in revenues (estimated to be $6.6 billion by Javelin Strategy & Research, a global financial services consultancy), banks have already imposed new monthly maintenance fees--usually from $36 to $60 per year--on standard checking and debit-card accounts, as well as new or higher fees on particular bank services. While wealthier consumers have avoided many of these new fees--for example, by maintaining a sufficiently high minimum balance--a Bankrate survey released this week reported that only 45% of traditional checking accounts are free, down

Some consumers who previously banked for free will be unable or unwilling to pay these fees merely for the privilege of a bank account. As many as one million individuals will drop out of the mainstream banking system and turn to check cashers, pawn shops and high-fee prepaid cards, according to an estimate earlier this year by economists David Evans, Robert Litan and Richard Schmalensee. (Their study was supported by banks.)

Consumers will also be encouraged to shift from debit cards to more profitable alternatives such as credit cards, which remain outside the Durbin amendment's price controls. According to news reports, Bank of America has made a concerted effort to shift customers from debit to credit cards, including plans to charge a $5 monthly fee for debit-card purchases. Citibank has increased its direct mail efforts to recruit new credit card customers frustrated by the increased cost and decreased benefits of debit cards.

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Conceived of as a narrow special-interest giveaway to large retailers, the Durbin amendment will have long-term consequences for the consumer banking system. Wealthier consumers will be able to avoid the pinch of higher banking fees by increasing their use of credit cards. Many low-income consumers will not. Banking will become less innovative and consumer-friendly. [Wall Street Journal, 9/29/11]

But Reforms Increase Transparency For Consumers

CEPR's Dean Baker: “Under The New System, The Cost Is Transparent And People Could Decide For Themselves Whether They Want To Pay It.” In an email to Media Matters, economist and co-director for the Center for Economic and Policy Research Dean Baker writes:

Debit cards have a cost, it makes sense to have the people who benefit from using them pay the cost. Under the former system, cash customers effectively were being taxed so that banks could allow people to use debit cards for free. Under the new system, the cost is transparent and people could decide for themselves whether they want to pay it. Market supporters should prefer the current system. [E-mail to Media Matters, 9/30/11]

American Banker: Other Banks Have “Chosen Not To Act” Like Bank Of America. From American Banker's Jeff Horwitz:

The stresses on Bank of America are felt across the industry: restrictions on interchange fees guarantee that debit card revenue will undergo a multi-year plunge, and restrictions on overdraft fees have diminished the profitability of checking accounts connected to the product. But while Wells Fargo & Co is testing out a $3 monthly fee on debit cards in a few markets, Bank of America is one of the first banks, and the biggest, that felt an urgent need to directly compensate for the lost revenue by adding debit usage fees system-wide.

There's a reason that other institutions have chosen not to act. The Durbin Amendment to last year's Dodd-Frank Act will cost the banking industry more than $5 billion in annual debit interchange revenue next year, down from the 2010 peak of $18.8 billion, according to Mike Moebs of Moebs Services. But as badly as debit card revenue will be harmed by the new restrictions on the processing fees that banks can charge merchants, interchange still has a promising future.

Bank of America explained its decision on Thursday by saying the “economics of offering a debit card have changed with recent regulations.” But those economics may not have changed all that much in the long haul. Based on increasing debit card market penetration and rising transaction volumes, Moebs predicts that interchange revenue will rise to a new high by 2015.

In other words, as much as banks hated Durbin, they can wait it out. Per-customer revenues will recover. [American Banker, 9/29/11]

Reforms Make The Market More Competitive

Former Reagan FTC Chairman: Interchange Debit Card Fees Are “Textbook Evidence Of Monopolistic Price Discrimination.” James Miller III, who was appointed chairman of the Federal Trade Commission by President Ronald Reagan and also served as Reagan's budget director and later became a consultant to the Retail Industry Leaders Association, wrote in Politico:

It's textbook evidence of monopolistic price discrimination -- price distinctions related more to demand than to costs. The result is that debit interchange is one of merchants' largest costs of doing business -- particularly small shops that are a major portion of the small-business sector and are so critical to local economies. While shoppers don't see the monopoly directly, they feel its presence in the form of higher prices.

The Federal Reserve's new rules would adjust this divergence, freeing up merchants' choices to make this market more competitive. With retail competition so intense, all consumers are likely to benefit - users of cash, credit and debit. [Politico, 2/24/11]

Dean Baker: Limiting Interchange Fees Will Translate “Into An Additional $9.6 Billion A Year In Consumer Pockets.” From a May 9 news analysis by Baker:

There are two major debit card networks, MasterCard and Visa, who essentially are the market. Together they control more than 90 percent of the debit card market.

This control gives them enormous market power. There are few retailers who can refuse to accept the debit cards issued by these networks. They would lose a huge amount of business if they did. As a result, MasterCard, Visa and the banks with which they share their profits, are able to charge fees that far exceed the actual cost of a debit card transaction.

According to research from the Federal Reserve Board, the fees on debit card transactions average 48 cents. The Fed estimates that the networks can cover their overhead and operating costs with a fee of 12 cents per transaction. The difference, which comes to $12 billion a year, is pure frosting. It's additional profits for the banks and credit card networks. (Some of this is shared with debit card customers with various rewards, like frequent flyer miles.)

The biggest losers in the current system are cash paying customers. Retailers are required by the companies to charge the same price to everyone. When they raise their prices to cover the debit card fees, they also must raise prices to customers who pay in cash, who tend to be poorer. So, we have a system in which low-income consumers pay higher prices to increase the profits of the big banks and give frequent flyer miles to higher income consumers.

This is where the big retailers come in. If they can lower the swipe fees, they hope to be able to pocket some of the savings, even if they end up passing most of the savings on to consumers. If the big retailers can pocket 20 percent of the savings, this gets them another $2.4 billion a year in profits. This is real money, certainly enough to get their attention. However, the other 80 percent translates into an additional $9.6 billion a year in consumers' pockets.

This is the reason that Wal-Mart is on the side of the angels. It is not being altruistic; it hopes to increase profits by lowering swipe fees. However, it will also be putting money into consumers' pockets (and taking it away from banks), if it succeeds in this effort. [Truthout, 5/9/11]

Former IMF Chief Economist On Interchange Fees: “The United States Severely Lags Behind Comparable Countries In Terms Of How Consumers Are Treated By Banks.” From a post on The New York Times' Economix blog by former International Monetary Fund chief economist Simon Johnson:

The immediate issue is the so-called Durbin amendment -- a requirement in the Dodd-Frank financial overhaul legislation that would lower what are known as the interchange fees that banks collect when anyone buys anything with a debit card. Retailers pay the fees, but these are then reflected in the prices faced by consumers.

The United States has very high debit-card fees, colloquially known as swipe fees -- 44 cents on average (that amounts to 1.14 percent of the average purchase price of $39) and up to 98 cents for some kinds of cards. These fees are per transaction and although the formula is complex, the payment is a significant percentage of many purchases and poses a particular problem for smaller merchants. These fees are estimated to amount to $16 billion to $17 billion annually.

Other countries, including Australia and members of the European Union, have acted to reduce interchange fees - because the actual cost of such transactions is quite low. Think about it: the interchange fee for checks, which also draw directly on bank deposits, is zero.

The United States severely lags behind comparable countries in terms of how consumers are treated by banks in this regard.

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But this is a badly broken market, as James C. Miller III, the budget director under President Reagan, has argued. Too-big-to-fail banks are not a market - they are a government subsidy scheme, because they are backed by implicit government bailout support (to be provided at below market cost whenever needed).

These subsidies enable megabanks to borrow more cheaply and grab market share relative to smaller banks (those with less than $10 billion of assets.) On top of this, and working closely with the biggest banks, Visa and MasterCard have around 90 percent of the market for debit cards - hardly conducive to reasonable competitive outcomes. [New York Times, 4/7/11]