Payment cards

Phil Alves 15 October 2010 Payment card interchange 1

Outline

1. The credit card market in South Africa 2. What is interchange?

3. What are the concerns?

4. The Enquiry Panel’s view 5. What can be done?

6. Conclusion Payment card interchange 2

Credit card market by card scheme

October 2006, Submission to the Banking Enquiry

MasterCard Visa AmEx Diners Club

Total number of credit cards in circulation is roughly 6 million Payment card interchange 3

Credit card market by issuing bank

April 2007, Submission to the Banking Enquiry Payment card interchange ABSA Standard Bank Nedbank FNB Others 4

What is interchange?

• • • • Two-sided platforms/markets – Newspapers, shopping malls, video gaming platforms, payment cards Interchange balances demand on either side Aim: to optimise total demand for network usage – And to overcome chicken and egg problem (usage and acceptance) Not necessarily to redistribute costs between issuers and acquirers, although issuing is more expensive Payment card interchange 5

Three-party scheme

AmEX

P

minus merchant service charge Merchant

P

plus card usage fee (or minus rebate) Good/services at price

P

Cardholder Payment card interchange 6

Four-party scheme

Network fee Acquirer

P

minus merchant service charge Merchant VISA Network fee

P

Interchange Issuer Good/services at price

P P

plus card usage fee (or minus rebate) Cardholder Payment card interchange 7

Concern 1 – consumer welfare

• • • • • Central concern of the European Commission and UK’s OFT Merchants pay merchant service fees – Interchange sets the floor of merchant service fees – Multilateral interchange may restrict competition among acquirers – Merchants are also consumers themselves Merchants pass on higher costs through retail prices Issuing banks with market power do not pass on interchange receipts sufficiently to cardholders Inter-platform competition drives up interchange Payment card interchange 8

Concern 2 – payment efficiency

• • • • • Stated concern of the Reserve Bank of Australia (RBA) (Social) efficiency related to the payment system High interchange on credit cards encourage ‘excessive’ usage Credit cards are more costly than debit cards to the society (but not to the cardholder) – but credit cards are far more prevalent Market failure: competition leads to inefficiency Payment card interchange 9

Concern 3 – cashless society?

• • • • What are the relevant policy priorities here?

Card penetration (debit and credit) is low in SA Less cash is good for just about everyone – Consumers (security) – – Merchants Banks – Non-bank payment firms – SARB – SARS and Treasury Can interchange influence this situation?

Payment card interchange 10

CC’s view since Enquiry

• • Action on interchange must include policy input from NT and SARB, because financial inclusion and payment system efficiency are important considerations But the options still boil down to: – Regulation – Competition law enforcement Payment card interchange 11

Regulation

• • • • Can be tailored to a sector Can be forward looking and flexible But must be clearly justified (cumulative): – Clear policy objectives – Identification of market failure with theory supported by empirical evidence – Benefits outweighs potential distortions – Implementable with low information requirement – Vision of the likely, not desired outcome In a sense, burden of proof lies with the authority Payment card interchange 12

Competition law enforcement

• • • • • Market definition is crucial (two-sidedness) – EC cases looked at the acquiring side only Backward-looking in nature Remedy (cartel fine, cessation of price-fixing) may not actually address the concerns As in EU, inability to shoulder the burden of proof may determine the outcome, which may then be arbitrary Constant litigation or monitoring is required – competition agencies are not regulators Payment card interchange 13

Regulation - lessons from RBA

• • • • RBA is the pioneer of interchange regulation – Statutory power given by Payment System Act RBA has a very clear objective – Payment system efficiency – Death of EFTPOS?

Anticipated outcome – Reduced credit card usage relative to debit card – Lower merchant fees; merchants start to surcharge – Credit card holders should pay more for usage RBA proposes stepped back from regulation in late 2009 Payment card interchange 14

Enquiry Panel’s view

• • • • • • Multilateral interchange is probably necessary for cards, maybe necessary for non-card electronic payment streams, especially at startup But subject to abuse by banks and card schemes Current methodology is unsatisfactory Interchange needs to be kept ‘as low as is reasonably possible’ Adopt (Australian-type) regulation If regulation is not adopted, may initiate an investigation under sections 4(1)(a) or 4(1)(b) Payment card interchange 15

The Panel’s recommendations

• • • Devise an independent, objective and transparent interchange-setting mechanism Determine necessity of interchange in each stream Set up Interchange Forum to regulate payment streams in which interchange is deemed necessary – South African Reserve Bank – Banks and payment schemes – Merchant and consumer groups – Third-party cost and demand studies Payment card interchange 16

CC’s response (1)

• On pure competition grounds, the CC argued for the following changes 1. Interchange must not be set collectively by issuers – this is a cartel 2. Card schemes to take interchange decisions independently 3. Authorities must devise rules of engagement such that inter-scheme competition doesn’t perpetually drive up interchange Payment card interchange 17

CC response (2)

• • • Interchange Forum not practical – – Information requirement is enormous Consensus nature means that the final decisions are likely to be arbitrary – Regulator would have no vision of the outcome – Results would not improve consumer welfare, and may even harm efficiency CC concluded that an authority must either: – – Regulate outright, or Devise suitable rules And at the same time all efforts must be made to intensify competition on both sides of the market Payment card interchange 18

Conclusion

1. Payment card systems operate in two-sided markets and interchange is a necessary balancing mechanism 2. Competition law enforcement on two-sided markets as if they are normal markets may lead to undesirable outcomes 3. Regulation is difficult, and unlikely to improve consumer welfare if banks retain market power, especially in issuing 4. Regulation is nevertheless ‘easier’ than competition law enforcement, and carries fewer risks 5. At the very least, we must and have ensured the independence of card schemes from issuing banks Payment card interchange 19