Interchange Fee Battle: Time to Step Back?

Is it time to take the fight over interchange fees out of the courts before it does real harm to the credit card associations and their member banks?

Consultant Steve Mott answered that question with a resounding “yes” on Monday as he warned banks they had better find a voice for themselves, bring this debate out into the open and let cooler heads prevail before ongoing litigation and impending merchant defection to non-bank payment products makes the situation even more adversarial.

“Until the issues can be openly and ingenuously examined and thrashed out to the satisfaction of all stake-holders, the prognosis could be calamitous,” said Mott, principal of Stamford, Conn.-based consultancy BetterBuyDesign in a BAI Payments Forum session entitled “Interchange – Where Do the Opportunities and Challenges Lie?”

The battle over growing interchange income from signature-based card products has pushed the associations and several of their member banks into a bruising string of legal battles with merchants. Mott suggested that an independent arbiter – perhaps the Fed – referee an examination of costs and value for credit card payments and “start a process of rationalization before merchants abandon bank networks and products en masse and the pricing of payments plummets below levels from which financial institutions can sustain any profits.”

Mott said interchange levels have grown from 1.2% of purchases in 1990 to 1.75% today and now account for $24 billion in annual profits, which continue to grow rapidly.

Card-issuing banks contend they need these fee levels to continue expanding market acceptance and especially to compensate themselves for the resources they pour into increasingly popular rewards programs. But merchants argue that broad market acceptance has already been achieved – few of them can afford NOT to accept bank cards for payment – and there’s no incremental benefit from rewarding consumers to use particular brands of cards, since most consumers who get the rewards are non-revolvers and therefore don’t need credit to make their purchases.

“It’s easy to see why the card industry is so protective of interchange,” Mott said. “Credit cards generate the vast bulk of merchant fees paid to financial institutions vis-a-vis all other payment types. But these particular fees keep going up (except for the largest merchants who can negotiate discounts), even though the use of this payment product has clearly matured and provides marginal benefits to accepting merchants.”


“Basically, market power has translated into raising the overall cost of business for retailers,” Mott added. “The top ten issuers, who control more than 90% of the signature-card transaction volumes, have dragged the rest of the industry into a poorly-timed fight.”


Mott noted that the fight over interchange fees “is occurring right at the moment when the industry is trying to master a major transition to electronic payment mechanisms. Losing this battle over signature card fees could have hugely detrimental impacts on many other banking products and customer relationships.”


More than 30 interchange-related lawsuits have been filed in recent years, typically by large individual merchants or groups of merchants, seeking to get card associations and their bank members to reduce interchange rates or give merchants more leeway to negotiate them. Other suits have charged individual banks as well as the associations with “price fixing,” and failure to disclose certain fees that factor into the rates.


Mott said card issuers must re-think how to handle this issue, especially if more of these legal actions start going the way of the famous “Wal-Mart” class action suit. When settled in April 2003, this case required Visa and MasterCard to pay more than $3 billion to a group of retailers, led by Wal-Mart, and to negotiate rates and terms on interchange.


“The Wal-Mart suit settlement was seen as a violent shock to the industry,” Mott said.


And the after-shocks are still being felt: Just last month, Mott noted, a panel of judges consolidated at least 14 new interchange-related cases to be tried in the U.S. District Court for the Eastern District of New York, the same court that originally certified the Wal-Mart suit as a class action five years ago.

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