The Mounting War Over 32 Cents

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Close-up of human hand swiping a credit card

A battle between retailers and financial institutions is likely to spill over into Congress this week. The Senate is expected to vote on a bill sponsored by Jon Tester (D-Mont.) that would delay the implementation of a 12-cent cap on debit interchange fees proposed by the Federal Reserve.

Right now, retailers pay around 44 cents every time someone swipes a debit card, and that money goes to the bank that issued the card. The 32-cent difference might not seem like that big of a deal, but banks make some serious money off these charges — $15.7 billion in 2009, according to the Fed, which settled on the 12-cent figure after asking 131 big financial institutions to share how much they pay per transaction to process debit purchases. (Not all of them provided the data, which leads retailers to claim that the real average could actually be lower.)

Is 12 cents a swipe more than banks deserve, and are consumers getting the short end of the stick here? According to Nessa Feddis, vice president and senior counsel for the American Bankers Association, “The 44 cents is what the markets determined is the appropriate price.” The Fed has said it wants fees to be reasonable and proportionate to what it costs banks to process debit transactions. “In our world, reasonable and proportionate would assume costs plus a reasonable degree of profit,” Feddis says.
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Unsurprisingly, the National Retail Federation begs to differ. “This for years has essentially been a secret source of funds,” says Mallory Duncan, the group’s senior vice president and general counsel, who claims big financial institutions operate in lockstep and prevent negotiation. “It’s operating essentially like a cartel,” he says. The NRF says the combination of credit and debit swipe fees costs each U.S. household $427 annually.

Even Bill Hampel, chief economist for the Credit Union National Association, allows that the current 44-cent average is “slightly rich to cost.” Hampel says that according to CUNA’s calculation, it costs institutions between 25 and 35 cents to process a debit transaction, and he adds that figure could be lower for the biggest issuers because their fixed costs are spread across a higher number of transactions.

But while 44 cents might be too high, 12 cents might be too low. “The banks are saying that may be their costs but that doesn’t take into the consideration their investments,” says Dennis Moroney, research director of bank cards at TowerGroup, a research and consulting firm.

Even the Fed acknowledges that its 12-cent figure doesn’t include security and fraud costs. About $1.36 billion worth of debit fraud was committed in 2009, and Feddis says this costs issuers six cents per transaction at minimum. “There’s also all the data protection that people don’t think about, from firewalls and things like that that make sure that data is protected to educating staff,” she says.

The law would exclude institutions with fewer than $10 billion in assets from the 12-cent cap, but Hampel is skeptical that the industry’s big-shouldered behemoths wouldn’t discover or devise a way to coax merchants to give preferential status to their cards. TowerGroup’s Moroney shares this view, saying that the part of the 16-digit card number that identifies the issuing institution could be flagged as favorable or unfavorable. In the latter case, he says, the cashier might be prompted to ask the customer if they have another way to pay. While the card couldn’t technically be refused, the inconvenience of having a payment method questioned might be enough to make customers shy away.
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Stores do benefit from the debit card infrastructure. Studies have demonstrated that when people pay with plastic, they spend more. Large amounts of cash make stores vulnerable to robbery, and paying with a card means the merchant gets paid almost immediately with no danger of the payment bouncing, as with a paper check. Merchants have a couple of tools to nudge people toward interchange-free transactions. They’re allowed to offer a discount for cash-paying customers, and they can require a minimum purchase of up to $10 if you want to use your card.

Teasing out what’s best for consumers isn’t going to be so easy. Australia passed a debit interchange fee cap in 2003; when the Government Accountability Office studied the results in 2009, they couldn’t find evidence that the cap led to lower prices for consumers, although costs were reduced for merchants. Conversely, the report said, “consumers may face higher costs for using their cards.” The NRF’s Duncan points out that retailers could keep prices the same but offer other perks like free delivery. But there’s really no way to legislate that retailers actually share that savings with consumers. The free market might do the trick, but this is the same market the retailers don’t trust to give them a fair shake on interchange fees.

Banks say a fee cap will lead to higher fees and fewer benefits for customers. We may see some of that. In fact, a number of major banks have already axed free checking in response to legislation limiting how, when and how much banks can charge customers in overdraft fees. In response to the prospect of sharply lowered interchange fees, banks have suggested that they might cap debit card transactions or raise fees for debit-related services.

But banks also predicted gloom and doom when Congress passed the Credit CARD Act of 2009. Credit would dry up, they said; cards with no annual fees would be discontinued, “teaser” rates would disappear and rewards would vanish. Take a look at your mail. It’s probably studded with credit card offers promising one or more of those perks.

There is one thing you can do to help your local mom-and-pop retailers from having to fork over that 44 cents every time you swipe: Key in your PIN instead of signing for your purchase. Signature-based transactions cost an average of 1.38 percent of the total transaction cost, versus .38 percent for PIN purchases. “That’s why the banks prefer signature,” says TowerGroup’s Moroney, “because they have that additional revenue they get from interchange.”