Peter Guidi's Blog

Posts Tagged ‘decoupled’

New Bank fees set the stage for Merchant Issued Debit and Rewards.

In alternative payment, Bank Fees, Bank Tax, Coalition Loyalty, Convenience Store, credit card, debit card, interchange, loyalty, merchants, payment, Payment card, Peter Guidi, Petroleum retailing, Platforms, retailers, swipe fees, Uncategorized on October 1, 2011 at 3:01 pm

The stage is set for an epic battle between the merchant community and the financial industry to win the consumers method of payment (MOP).  This week, BoA joined the list of financial institutions announcing either fees, or cut backs in consumer rewards programs, for debit card use .  Senator Dick Durbin sounded surprised when he said of BoA’s actions; “It’s overt, unfair” adding that “Banks that try to make up their excess profits off the backs of their customers will finally learn how a competitive market works”. Many in the industry had long predicted that this would be the immediate result of the regulation (see my June 13, 2011 Blog).  Regardless of the merits of the regulation, or the banks reaction to it, one immediate result is that merchants have the opportunity to steer consumers to a lower cost form of payment (debit): the question; will they be able to leverage this opportunity, or will the payments industry adjust their payments offerings steering consumers to unregulated forms of payment with higher fees i.e. credit, pre-paid cards, etc.

The pivotal decision for merchants is how to recapitalize the anticipated saving from swipe reform and use that money as an incentive for consumers to choose a lower cost form of payment.  Many merchants, particularly in the petroleum and grocery industry are already actively competing for method of payment by offering ACH decoupled debit card programs (merchant issued debit) or cash discounts. For these merchants, and vendors offering alternative payments  like PayPal or National Payment Card Association, the Durbin Amendment is living up to expectations providing them with a strong tailwind to the merchant and consumer.

Merchants are understandably cautious as they approach payment.  While technology, investment and ramp time look like the heavy lift, the real challenge is to understand the economics.  Traditionally merchants have relied on the bank and card associations to deliver payments.  During the lead up to regulation one argument was that; “there was no competition for payment”. Merchants’ successfully argued this point, irrespective of the intense competition between banks for consumers. What was missing from the debate is that the reason consumers use one form of payment over another is often rewards. These rewards had been paid by the issuers of the card using interchange fees (as much as 50%), and now with regulation, that funding source has disappeared.  Therefore merchants can provide consumers with the same incentive to use a low cost form of payment by offering merchant issued rewards.

Finally, there is a saying “He who enrolls; controls”. Issuance or enrollment is a critical question for merchants choosing to compete for MOP using rewards. Assuming that the merchant chooses to offer rewards for a specific MOP, which MOP should it be, cash, PayPal, Google, or perhaps a merchant issued debit card.  The smartest strategy might be a flexible approach to payment where rewards are based on the costs associated with the method of payment, regardless of whether the rewards are paid for by the merchant, or a 3rd party.


Durbin’s Catch -22, Merchant Issued Rewards.

In credit card, debit card, interchange, merchants, payment, Payment card, Peter Guidi, Petroleum retailing, Platforms, swipe fees on June 13, 2011 at 9:13 pm

Merchants have won a battle, but the question is: can they leverage the advantage and win the war for the consumer’s method of payment?

The phrase “Catch-22” means “a no-win situation” or “a double bind” of any type. In the book, “Catch-22”, Joseph Heller describes the circular logic that confronts an airman trying to avoid combat missions by saying that his claim of insanity is the proof of his sanity. With the passage of Durbin, retailers are faced with the same circular logic. The Catch 22 of Durbin is that consumers must choose debit if retailers are to save on interchange fees, and consumers will only choose debit if offered rewards or to avoid bank fees. Today consumers choose debit in large degree to earn signature based debit reward or because PIN debit does not have bank fees as opposed to credit cards where there are annual fees and interest.  Durbin will change that paradigm as banks make up lost revenue by eliminating signature debit and adding fees to, or eliminating, pin debit cards. If those changes occur then retailers will need to fund consumer debit rewards to promote debit payment. Because merchant issued debit rewards erode Durbin’s potential cost savings, the potential is that total debit transactional fee may be higher than those during the pre-Durbin era…Catch-22.

Durbin’s challenge to Retailer’s is how to influence the consumer’s method of payment. Just because consumers are choosing Debit today, does not mean they will be choosing Debit tomorrow. The reasons why consumers choose one form of payment over another (Debit, either signature or PIN, cash, credit, check, prepaid etc.) are complex, but “Rewards” plays a large role in the process. In fact, nearly 50% of all interchange dollars are used to fund reward programs. A quick review of Bank advertising for Debit will show that Debit Rewards is tied to Signature Debit, not PIN Debit; “rewards are ” Pen, not PIN”.  Rewards for Signature Debit, plus “No Fee” PIN debit has created significant consumer demand for debit products. The banks loss of signature debit interchange fees means that these reward programs will disappear and consumers will begin paying fees for PIN debit. The result is that Durbin will change both the Debit and Payment Card market, not just the fees.

Look for these results:

1. Look for more pressure on retailers to install Pin Pads. Signature debit will go away as Financial Institutions will not longer offer signature debit. The whole point of signature debit was capture credit card like interchange fees. Debit rewards programs are funded by credit card like interchange fees and at Durbins mandated +/- 12 cents there is no “rabbit in that hole”. The reason retailer’s implemented PIN pads (3dez) were to move consumers from Pen to PIN. If Merchants are to win from Durbin, PIN Pads will play a large role in that success; otherwise there will be no debit at retail. Durbins “$10 Billion” exemption is a wild card. If smaller institutions introduce aggressive signature debit programs at the expense of larger institutions then Durbin will prove to have cost retailers more than they will save.

2. Financial Institutions will seek ways to replace lost revenue. The most immediate impact is likely to be fees on both dda accounts and perhaps the use of debit cards either as a transaction fee or monthly fee. Banks will discriminate against Debit making it less attractive. One of my associates added “Issuer’s already have plans to discontinue issuing debit cards and returning to ATM only cards.” He adds “other issuer’s are going to place a transactional cap on debit cards instead of taking them away.  They will only allow a transaction for $50.  If the transaction is $51 – then, another $1 transaction will have to run.”  Say good-bye to friendly debit transactions.

3. Watch for growth in closed loop debit card, particularly ACH Decouple Debit.

In the short term, Merchants will realize a windfall as consumers who use Debit maintain that method or payment. Debit usage will drop off unless Merchants introduce “Merchant Issued Rewards”. Merchant Issued Rewards are another name for loyalty. I can offer more on that if requested. The question retailers need to answer is: If you must offer rewards to promote debit, why not promote your own debit card? Durbin will increase the importance of loyalty rewards as merchants compete with FI’s for the consumer’s method of payment (i.e. PIN Debit).

4. Watch for more aggressive Credit Card and Pre-Paid card offerings with lower credit card fees, easier credit and more aggressive rewards. Pre-Paid is apt to be the next place the FI’s push for consumer adoption and fees. As the economy strengthens, and consumer debt drops the structural issues negatively impacting credit will lesson. Financial institutions can impact the consumer’s attitude towards credit by being more consumer friendly. The loss of signature debit will hasten this activity.

5. One “Wild Card” is the DOJ lawsuit on credit card interchange fees. There has not been a lot of press on this, but there will be soon.



Who gets to choose? Durbin’s provision on “multi-homing” and the prohibition on network routing exclusivity.

In credit card, debit card, interchange, merchants, payment, Peter Guidi, Platforms, retailers, swipe fees on January 29, 2011 at 2:18 pm

Here is the question:  When considering Durbin’s requirement prohibiting exclusive debit transaction routing arrangements, does the merchant or issuer choose which second unaffiliated network is available to route transactions? The answer is unclear and its implications impact both the intent of the regulation and the technology required to implement the rule.

Thus far, the majority of interest in Durbin is focused on the impact of interchange fee regulation with little attention on the second aspect of the provision; network exclusivity and transaction routing. Durbin has two provisions, the second of which says “that neither the issuers nor network may restrict the ability of merchants to direct the routing of the transaction”.  The rule is intended to foster competition between networks. The concept being that when at least two unaffiliated networks compete for transaction routing, the price merchants pay will optimize.

The Board is requesting comment on two alternative rules prohibiting network exclusivity: one alternative would require at least two unaffiliated networks per debit card, and the other would require at least two unaffiliated networks for each type of transaction authorization method. Under both alternatives, “the issuers and networks would be prohibited from inhibiting a merchant’s ability to direct the routing of an electronic debit transaction over any network that may process such transactions.” Some have suggested that the answer to this question lies in the currently available least-cost routing selections available to consumers between PIN and Signature debit. In this scenario debit cross-routing is the solution to network exclusivity. One expert suggests that “one such solution would be Visa for signature debit and Maestro for PIN debit. They are not affiliated, and thus fulfill the requirements of the first alternative.” The existence of the second alternative makes it clear that the Fed has not yet decided whether signature and PIN debit are one market.”

The contradiction is between the intent of the regulation and the Boards’ rule making process.  The differentiation between routing based on a transaction or a card may delineate the type of routing available, but it does little to foster routing competiveness. The intent of the regulation is to foster competition between networks.  Allowing the Issuer to choose the second network by pitting the PIN and Signature networks against each other is a weak proposal. On the other hand, if merchants choose the second network from a multitude of routing options competition will emerge, but how does that work? In order for the merchant to have a choice between a variety of networks, Issuers would have to support routing on all networks. In this scenario merchants might choose different networks on a location or regional basis? Implementing this type of network routing matrix will mean substantial changes in the infrastructure and business rules. The time and effort to create such a system is currently unknown. If competition between networks is the congressional goal this seems to be the correct interpretation.

The alternative interpretation is for the Issuer to offer the merchant a choice of two networks. In this case every Issuer would be forced to offer two networks for processing a transaction.  As an example, Visa and MC may have to route each other’s transactions. The merchant would be able to choose which of the two available networks to route the transaction.  Presumably, creating competition. As a result the merchant would choose the cheaper of the two. However, this scenario does not assure the merchant choice and adds the possibility that the Issuer could offer a second network with higher fees. In this case the second network would be the more costly option resulting in no opportunity for merchant savings.

How a two-network solution is allowed under the final version of the regulations remains unknown. It does seem that merchant choice fits congressional intent more clearly than Issuer choice, even if the technical challenges and costs to develop such a system are currently not contemplated or that the rule making process appears to miss the point.


Debit or Credit, the role of merchant-issued rewards and the consumer’s choice of method of payment.

In credit card, debit card, interchange, loyalty, merchants, payment, swipe fees on December 28, 2010 at 10:45 am

On December 16, 2010 the fog began to lift on where Section 1075 of the Durbin Amendment would lead as the Federal Reserve Board issued its proposed interpretation of the legislative language. One question on many peoples mind is how the new regulations will impact consumers. Voices on the banking side seem skeptical that the regulation will have any positive impact for consumers sighting Australian studies where retailer prices appear unchanged as bank fees rose and payment options declined.  On the other side of the argument, the National Retail Federation welcomed proposed regulations saying “a significant reduction in the fees would result in lower costs for merchants and could lead to discounts for their customers.”

NRF Senior Vice President and General Counsel Mallory Duncan said. “The combination of reducing rates and allowing retailers to offer discounts will go a long way toward stopping the current scheme where big banks take a bite out of consumers’ wallets every time they use a debit card.” He goes on to say that the NFR “will work closely with the Fed as these regulations are finalized to ensure that the reduction in fees – and the amount of money retailers can offer customers as a discount – is maximized.” And so it seems that the stage is set for retailers to offers consumers discounts if and when they use a debit card to pay for their purchase.

In a recent article published in PYMNTS, Katherine M. Robison of O’Melveny & Myers LLP says that “while the Board says it understands and appreciates the importance of debit cards to consumers, it is disturbing how little the interests of consumers entered into its justification for the Proposal”.  She goes on to say that “The debit card market is a two-sided one, with merchants who accept debit cards on one side and consumers who use them on the other.” Her point being that in this two-sided market an action that may decrease consumers’ demand for debit (say by making debit transactions less appealing to them) will ultimately decrease the utility of debit to merchants.  Further, if Banks add fees to the checking account or the use of the debit card while eliminating reward programs consumers will also find debit less appealing. She adds “So while lower interchange fees may encourage more merchants to accept debit cards, at that point there may be fewer consumers who want to use them.” Enter the role of merchant issued rewards.

Consumers could benefit from a rewards battle between merchants and banks for their method of payment. On one side will be the issuers of credit cards, on the other will be the retailer and the winner could be consumer as they rack up rewards by choosing either credit or debit. Their choice will be simple, choose to use a bank issued credit card and earn rewards like airline miles, or choose a debit card (either bank or merchant issued) and earn retailer funded rewards. The decision will be based on which offer the consumer finds more attractive? 

Over the last five years a variety of alternative payment providers. Like National Payment Card Association, have brought forth payment technologies like merchant issued debit cards designed to circumvent the traditional payment processing network delivering a lower cost transaction to the retailer. Now with the Fed’s proposed interpretation of the rule, bank issued debit cards will carry similar fees and so the retailers will face an analogous implementation challenge. How does a merchant motivate a consumer to use a lower cost form of payment? Merchant rewards are the obvious answer. And so the question is; will retailers recapitalize the cost difference between a traditional credit card transaction and the new debit fee and use the savings as a reward? And if not, why would the consumer choose to use a debit card rather than a credit card? Retailers will face a variety of challenges leveraging these new fees to their advantage.  Most notably is that the possibility that a debit transaction with merchant funded rewards may actually cost more than the original bank fee for a debit transaction. 


“Reasonable and proportional”, issuance and rewards are out, Fraud is in!”?

In alternative payment, credit card, debit card, interchange, merchants, payment, Payment card, retailers, swipe fees on June 24, 2010 at 1:56 pm

Last week I discussed the operational costs associated with issuing cards and retaining members and postulated that the Fed should include these costs in the analysis of “reasonable and proportional costs associated with a transaction”. One reason these costs might be included is to support the competitive product offerings consumers receive from banks to enroll in the various programs that are offered. The expectation being that if these costs are not considered a part of the reasonable cost of the transaction, then the programs would need to be eliminated, thus limiting consumer choice. With the Durbin Amendment nearing agreement and inclusion in the final bill, it now appears that the answer to the question is; no, the regulation says these costs are not included in the Fed’s evaluation used to establish debit interchange fees. The deal reached between Messer’s Frank and Durbin expanded the meaning of “reasonable and proportional to the cost incurred in processing the transaction” to include the cost of fraud in its analysis, a recognition of risk associated with payment card issuance. Moving forward, Financial Institutions have good reason to remain concerned about the Fed’s price setting authority as the language for assessing costs is limited to “incremental costs” excluding operational and other costs like issuance and rewards.

The wild card remains the $10 billion exemption. Watch for a multitude of creative corporate structural changes and new programs from entities’ falling below the threshold. If you think the rate table is confusing now, wait until the banks attorneys’ drive through the Durbin Amendments’ loop-holes! 


“Reasonable and proportional”, is issuance and the cost of reward programs a part of the “incurred payment processing costs”?

In alternative payment, Bank Tax, credit card, debit card, interchange, loyalty, merchants, payment, Payment card on June 17, 2010 at 9:34 pm

Lost in the debate over interchange fees and the Durbin amendment is a focus on how payment card products reach the consumer. One of the key points of the amendment is to mandate that the interchange fees on selected debit transactions be “reasonable and proportional to the cost incurred in processing the transaction” Merchants have taken the position that as the volume of transactions have increased, the economies of scale and overall effectiveness and efficiencies of the payment processing network have improved, and therefore the cost of transaction processing have gone down. The fact that interchange has gone up during this period is used as evidence that system is corrupt and anti-competitive. This point is heard when Senator Durbin says that government needs to “reasonably regulate this system”.

Missing from the debate on interchange and what constitutes the costs incurred in processing a transaction is consumer acquisition. Consumer acquisition costs are incurred in at least two areas; enrollment (consumer application) and rewards (loyalty programs & retention), to say nothing about overhead, like customer service. This week both Citigroup and TD Bank launched new “Debit Rewards” programs. Citigroup launched a 5% debit card cash back promotion, while the TD Bank program offers 1 point for every $1 dollar spent. In both cases, these reward programs are only available to consumers who use signature rather than PIN debit. As a consumer, which program should I choose? These are two highly competitive businesses, each offering me a product and a service. Each has put their best foot forward and is universally accepted. Both have used a different approach; one uses point’s, one utilizes cash back, and the choice is mine. If the Durbin amendment is successful and retailer acceptance is selective, and interchange fees regulated, would the consumer have these same choices?

Merchants involved with loyalty programs understand the costs associated with advertising and marketing to drive enrollment and fund reward programs. Industry sources report that up to 40% of all interchange dollars paid by merchants are used to support payment card loyalty programs. That means, in 2008, consumers may have earned up to 19 billon dollars in consumer rewards; a cost borne by the merchant, but also a cost to the issuer (bank).

The suggestion is that high fees are a result of no competition in the payment card market. In reality, the high fees are a result of intense competition. It just happens, that the competition is between banks (issuers) fighting for the consumers’ business.


Does regulated debit “Swipe Fees” mean the end of cobranded debit card programs?

In alternative payment, Bank Tax, credit card, debit card, interchange, loyalty, merchants, payment, Payment card, retailers on June 4, 2010 at 8:16 pm

Retailers choosing “open-loop” or “closed-loop” alternative payment system might want to consider the long term viability of the open-loop business model, particularly in light of their campaign to regulate and lower the associated “swipe fees”. 

Affinity, cobranded credit card programs have opportunities for both the bank and the merchant. While the “no or low fee” in-store use of the cobranded card is a big attraction, Retailers also profit from cobranded credit cards when consumers use the card to make purchases. When a consumer uses a co-branded credit card, the accepting merchant pays the “swipe fee”.  The cobranded merchant earning “swipe fees” is an example of network effects in a two-sided market. In this example, the merchant is leveraging their customers to market a bank product. Organizations that have the marketing to reach their customers will get the response needed to make the program successful. Ironically, much of the success will be a result of the high fees paid by the merchants who pay the “Swipe Fees”. 

Retailers evaluating merchant issued ACH decoupled debit card programs consider the same model while evaluating their choice of “Open”, or “Closed” loop payment systems. The question is can the decoupled debit card generate revenue for the issuing merchant in the same way cobranded credit card products do. Ironically, the answer all depends on the “swipe fee” the 3rd party merchant pays when the consumer uses the card. The higher the fee, the more successful the program. 

In order for an ACH decoupled debit card to work in an open loop system the card must affiliate with a bank, and a network. Today’s interchange rates for PIN debit are already comparatively low. The challenge for cobranded cards is to offer a level of consumer rewards that will motivate the consumer to use the card. This is the reason that debit rewards programs are offered for signature debit and not pin debit transactions. As Merchants anxiously await the passage of the much ballyhooed Durbin amendment, they might consider its impact on the cobranded card. If “swipe fees” for debit are regulated, (decoupled debit card programs included) there will be no dollars in the program for either the consumer, or the cobranding retailer. If the consumer does not receive rewards to use the card, and the retailer is not earning money from the program, the network effects driving the value of the platform will be eliminated, making the cobranded credit/debit card program obsolete.    (

The Final Frontier: the death of cash as a payment and the merchant’s role in the battle plan.

In alternative payment, Bank Tax, credit card, debit card, interchange, loyalty, merchants, payment, Payment card, retailers, Uncategorized on May 19, 2010 at 3:03 pm

MasterCard and Visa have identified the enemy; CASH! They have devised the final battle plan, the pre-paid reloaded card. VISA’ ReadyLink and MasterCard’s various solutions including a Wal-Mart payroll card are the weapons. The objective is clear; destroy paper currency and extend the reach of the platform and resulting fees over the last bastion of disintermediated transactions. The result will tax every dollar earned and spent by consumers.

The plan is cloaked in platitudes like; “serving the under-severed” or making the product “Green”. Like lambs off to the slaughter, Retailers have joined in the strategy with 7-11, Marathon and Blackhawk introducing Visa’s pre-paid reloadable card, ‘ReadyLink” to their customers. 

The core of the plan is to attack the enemy at its source, payroll. The concept is simple; prevent cash from ever reaching the hands of the consumer. The most efficient route to achieve the goal is to assure that consumers never receive cash by loading their payroll on a pre-loaded card, rather than receiving a payroll check. Say good bye to the check cashing business! When consumers load payroll onto a card the platform has captured the cash and will now earn fees on every purchase or payment made using the card; this is a brilliant strategy and is classic example of creating network effects. The growth of mobile payments and the preference of the “E-Generation” for electronic media is the sound of the bells ringing the death tome of cash in the future.

Acting is the work of two people-it’s only possible when you have the complicity. VISA estimates that there are 80 million underserved consumers receiving $1 trillion dollars in annual income that rely on cash for everyday transactions. Retailers will look back at their participation in these programs as a tactical error in the fight against transaction fees.


Petitions or competition? The “Supply-Side” & “Demand-Side” of the two-sided payment market.

In alternative payment, Bank Tax, credit card, debit card, interchange, loyalty, payment, Payment card on April 8, 2010 at 11:25 am

Most consumer payments involve some form of banking relationship. Mobile and other P2P payment providers like the newly launched “Square” offer the allure of disintermediation promising the end of the banks control over payment. But for now, retailers looking for lower transaction costs at the POS; the choices are limited, with most involving a card and all involving a financial institution (bank).

Retailers considering alternative payment need to under stand the “Demand-Side” of payments. Currently few retailers deal with the “demand-side” of payment; rather they deal with the “Supply-Side. The “Supply-Side” perspective of payments focuses on the network through which the payments are settled. 

The Demand-Side of payment systems has to do with the choices consumers make when selecting a “Method of Payment”. For most convenience/petroleum retailers this means a sticker on the front door or pump announcing which payment cards are accepted. Other “Demand-Side” promotional opportunities come from major oil or co-branded cards. Banks (card issuers) understand the importance of the “Demand-Side” and focus their efforts on influencing the consumers’ Method of Payment. Competition for the consumer’s payment choice or the Demand-Side is influenced by the banks and networks through affinity & reward programs promoted through extensive advertising and marketing paid. Retailers support these programs through Interchange Fees. 

In any two-sided market there are two groups of end users who need a “platform” to reach each other. In the case of payments, consumers with credit/debit card and retailers who want access to those consumer funds represent the two groups of End-Users. Their desire to reach each other is called a “network effect”. When banks focus on the ‘Demand-Side” of consumer payment choice by offering rewards, they are increasing the strength of the network effect. When Retailers focus on the supply side of the of consumer payment choice, accepting the cards and offering no alterative, they are adding to the strength of the network effect. The result of strong network effects is greater platform value resulting in higher fees. 

Successfully launching alternative payment programs means that retailers will need to focus on both the supply and demand sides of consumer payment choice.

Is “Social Justice”, the new rallying cry in the battle over interchange fees? What’s next price controls?

In alternative payment, Bank Tax, credit card, debit card, interchange, loyalty, payment, Payment card on March 18, 2010 at 9:51 pm

 “Pandora opened her jar and unleashed many terrible things on mankind.”

 In February 2010 the Consumers for Competitive Choice (C4CC) released a report called “The Costs of “Charging It” in America” by Shapiro & Vellucci: The report offers a number of conclusions, including the proposition that government regulation of interchange fees is Social Justice. Social Justice is a concept used to describe the movement towards a government regulated socially just world. The report suggests that the economics behind payment platforms, Two-Sided Markets and their inherent “Network Effects” create negative “Regressive Cross-Subsidies”. The suggestion is that interchange fees create a system where the poor pay for the privileges of the rich.

 In a paper written by Bolt & Chakravorti titled “A Review of Payment Card Economics” published in the November 2009 Lydian Payments Journal concluded “There is no consensus among policy makers or economists on what constitutes an efficient fee structure for card payments”. They go on to say “efficiency of payment systems is measured not only by the costs of the resources used, but by the social benefits generated by them”. Shapiro & Vellucci would seem to agree when they add “The current credit card and debit card systems provide valuable services to consumers and merchants and those services involve legitimate costs and therefore prices. Apparently the concept of profit for risk is not in their equation.

Last week a Delaware politician suggested mandating Full-Service Gas as a job creation initiative. Today the NRF urged Senator Dodd to add Interchange reform to the financial services reform bill. The C4CC published report suggests that Interchange Fee Regulation is a morally just cause towards achieving a level of Social Justice. Are retailers ready to see Social Justice added into their margin equation?