Peter Guidi's Blog

Archive for November, 2009|Monthly archive page

Market Power or Perfect Competition: The “Apples and Oranges” of the interchange pricing debate.

In alternative payment, credit card, debit card, interchange, payment, Payment card, Uncategorized on November 27, 2009 at 6:38 pm

Market Power gives a firm the ability to employ anti-competitive tactics like predatory pricing without losing customers to competitors. During testimony on H.R. 2382, the Representative of The Merchants Payment Coalition stated that “there is no competitive market for interchange fees – just naked price fixing”. On the other side, the Representative from The Electronic Payments Coalition called interchange an “important element(s) of the successful, competitive banking experience” adding that “interchange reflects a merchant’s fair share of the costs” (sic.) of the system.

Last weeks GAO report found that Merchants’ are in fact paying more to accept credit cards, but also added that “network competition in the credit card market may be contributing to rising interchange rates”.

Two-sided markets exhibit “Network Effects” when two groups of users are attracted to each other, in this case retailers who accept payment and consumers who make payment.  “Cross- Side Network Effects” occur when enough users are attracted to one side that the other side will pay dearly to reach them.  In this case, retailers are the “money side” and they pay to accept cards as a form of payment, while consumers are the “subsidy side” who receive incentives to use the cards as a form of payment. Linking these two groups together is the primary value of the payment platform creating powerful Cross-Side Effects.

Retailers’ accept cards as payment because so many consumers use cards for payment. Competition between card issuing banks to capture consumers, and networks to capture banks is intense as evidenced by the multiple offers for high earning rewards credit and debit products and their users. Retailers ultimately see the cost of this competition reflected in rising interchange fees, particularly the higher rate fees for reward based programs. The question is; does this competition between networks and financial institutions for the consumers’ payment business justify the increasing rates paid by retailers to accept these forms of payment or does it constitute a monopolistic example of a market failure?

Understanding two-sided markets; the economics of payment card acceptance costs.

In alternative payment, credit card, debit card, interchange, payment, Payment card, Uncategorized on November 18, 2009 at 9:44 pm

The payment network/platform is a two-sided market that matches users from two different groups enabling them to do business; in this case, consumers carrying cards, and retailers accepting cards. Two-Sided Market theory models the pricing and demand of platform services which involve interactions between two distinct groups. Typically, two-sided markets have a “subsidy side” that is a high volume group of users who are valued by the “money side”, or the other user group.  In the retail industry these two groups are the merchants and consumers, where the merchant is the “money side” because they value the large group of consumers carrying payment cards. Two-Sided economics explains the allocation of prices between the two groups. The key ingredient is that at least one side of the platform needs to deeply care about the number of participants on the other side.

The goal of a platform operator (Visa/Mastercard) is to generate “cross-side” network effect. If a platform can attract enough users, the money-side will pay handsomely to reach them. This is what happens in the retailer industry with credit cards and why the interchange fee keeps going up.  Interchange does not represent or reflect any specific operational cost being incurred by the network; rather it is a reflection on the value that the retailer places on access to the card user.

Interchanges fees and fairness, who’s money is it anyway?

In alternative payment, credit card, debit card, interchange, payment, Uncategorized on November 12, 2009 at 9:06 pm

Last month the House Financial Services Committee took testimony on H.R. 2382 from both the Financial Industry and representatives of the Merchants Payments Coalition which represents NACS. Both parties represented their point of view. On the retailer side, the argument remains that the retailers are unable to negotiate with the card associations for lower prices. Retailers expressed that banks and card associations are monopolistic so, congress should act to legislate and control fees or at least give retailers the ability to negotiate for lower fees and that the payment providers should be subject to Anti-Trust legal action. The key evidence being the “outrageous” swipe fees retailers pay to accept a credit card. On the other hand the Banks cried foul claiming that retailers are simply trying to use their power to gain the valuable credit card payment services without having to pay a fair price. The credit card representatives presented an argument demonstrating that interchange fees are fair, and in fact are undervalued.

This raises the question: Why would Merchants accept payment cards if the fees associated with the card are greater than the benefits? Interchange is a fee for a service that brings value to consumers and retailers and while retailers may have choices about method of payment, or even alternative payments, it turns out that promoting a method of payment is expensive and time consuming. It’s so much easier to put a sticker on the door that says” MasterCard and Visa” accepted here.  Eleanor Roosevelt once said, “It is not fair to ask of others what you are unwilling to do yourself” and therein may lay the answer. (

Increasing Debit Fees and the two sided market, the peculiar asymmetrical structure of payment card pricing where network competition means increased interchange fees.

In alternative payment, credit card, debit card, interchange, payment, Uncategorized on November 5, 2009 at 9:53 pm

Visa’s card brand’s fiscal year ended September 30th.  Visa reported that US Debit Sales where up 4.8% during the same period last year with an overall increase for the year if 13.2%, accounting for 6 billion debit transactions. “Digital Transactions” November 5, 2005 article entitled “Network Rivalry Sparks 10-year Quadrupling if PIN-Debit Pricing” details this increase using data compiled by the Federal Reserve Bank of Kansas City. One industry leader is quoted, “The only justification is when you have an anti-competitive business model and you can illegally fix prices”.  The question: Is he right? How is it possible for the price of debit to rise even as the use of the product also becomes more widespread? 

The payment card business is a “two-sided” market where consumers are unable to negotiate retail prices based on costs merchants pay to participate in the payment system. In a one-sided market, the consumer would be able to negotiate a lower price for a product based on payment, like a cash discount. Most people think that competition generally reduces prices. With two-sided markets, competition may yield increased costs and here’s why:

Consumers are issued Debit Cards from “issuers” (banks) and so this is the Issuer’s “inventory”. Banks need to make business decisions based on which “network” (STAR, INTERLINK, NYCE etc) they choose. The network is how the inventory gets used. As a result, networks compete for the Banks business, which in this case, means giving the “issue” more money when the card is used. The result is a higher cost to those who use the inventory. In this case the retailer, by paying higher fees to accept the card from the issuer, who is trying to maximize on the value of their inventory. This is something the retailers and banks share in common.