Peter Guidi's Blog

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.

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