|The Debit Card No-Brainer and Financial Reform|
The Guardian Unlimited, March 30, 2011
See article on original website
Would you like to increase the sales tax in order to pay the banks another $12 billion a year in profits? That is the issue that is being debated in Washington these days.
In case you missed it, this is because the issue is usually not discussed in these terms. The immediate issue is the fee that credit card companies are allowed to charge on debit card transactions.
We have two credit companies, Visa and MasterCard, who comprise almost the entire market. This gives them substantial bargaining power. Few retailers could stay in business if they did not accept both cards.
Visa and MasterCard have taken advantage of their position to mark-up their fees far above their costs. This is true with both their debit and their credit cards, but the issue is much simpler with a debit card.
While a credit card carries some risk because some of the debt incurred will not be paid, a debit card is paid off in full with an electronic fund transfer at the time of the purchase. The credit card company only carries the risk of errors in payment or fraud.
While these costs are quite small, the credit companies take advantage of their bargaining power to charge debit cards fees in the range of 1-2 percent of the sale price. They share this money with the banks that are part of their networks.
This fee is in effect a sales tax. Since the credit companies generally do not allow retailers to offer cash discounts, they must mark up the sales price for all customers by enough to cover the cost of the fee.
This seems especially unfair to the cash customers, since they must pay a higher price for the items they buy even though they are not getting the convenience of paying with a debit or credit card. Those paying in cash also tend to be poorer than customers with debit or credit cards, which means that this is a transfer from low- and moderate-income customers to the banks.
This is where financial reform comes in. One of the provisions of the Dodd-Frank bill passed last year instructed the Federal Reserve Board to determine the actual cost of carrying through a debit card transfer and to regulate fees accordingly. The Fed determined that a fee of 10-12 cents per transaction should be sufficient to cover the industry’s costs and provide a normal profit. The Fed plans to limit the amount that the credit card companies can charge retailers to this level.
This would save retailers approximately $12 billion a year, at the expense of the credit card companies and the banks that are part of their networks. The prospect of losing $12 billion in annual profits has sent the industry lobbyists into high gear. They have developed a range of bad things that will happen if the regulated fee structure takes effect and also argued that big retailers would be the only ones benefiting.
On the list of bad things that will happen, the banks are claiming that they will deny debit cards to many people who now have them and start charging for services like maintaining checking accounts. While banks may cut back some services in response to this loss of profits, if we want to see these services subsidized, it would make more sense to subsidize them directly than to allow banks to effectively impose a sales tax for this purpose.
The argument that retailers will just pocket the savings – instead of passing it on to consumers – is laughable since it comes from people who were big advocates of recent U.S. trade agreements. Their argument in that context is that lower-cost imports from Mexico, China, and other developing countries will mean lower prices for consumers.
It can’t be the case that competition forces retailers to pass on savings on imported goods but not savings on bank fees. In reality, the savings will not be immediately and fully passed on to consumers, but it's likely that most of it will be passed on over time, just as has been the case with lower-priced imported goods.
The credit card industry and the banks really don’t have a case here; they are just hoping that they can rely on their enormous political power to overturn this part of the financial reform bill. If they succeed then the bill will have even less impact that even the skeptics expected.
The industry is already aggressively working to weaken all the important provisions of the bill. There are more and more exceptions being invented to the Volcker rule that limited the ability of government-insured banks to engage in speculative trading. The industry is also trying to expand the list of exemptions from rules requiring derivatives to be traded through clearinghouses. And, it is rebelling against the requirement that financial institutions maintain a plan for their own resolution.
In these cases and others the industry will raise, it certainly has a better argument than it does on debit card fees. Brushing away their rationalizations, their argument here is that they want larger profits and they have political power to get them. That may turn out to be true.