Credit card Interchange fees: Much ado about nothing?

Do interchange fees (fees paid by merchants to credit card companies) shortchange consumers? The recent consent decree entered into between the U.S. Department of Justice and Visa & Mastercard suggests that the now-settled antitrust lawsuit against Visa and MasterCard could mean better prices for customers (and cost-savings for merchants).

American Express and Discover (not a party to the lawsuit) aver that it will do nothing for the consumer nor much for retailers, many of whom have hailed the Justice department's decision.  Discover rightly points out that  a key provision merchants wanted was the ability to levy surcharges for credit card  usage. That has not changed per the new rules.

The brouhaha about high fees fails to appreciate a basic facet of economic theory with regard to  "two-sided markets" as is the case in this situation. A two sided market is one in which there are two end-users (consumers and merchants), each of whom needs the other for the system to operate.  What ought to be self-evident is the inherent efficiency that arises from fact that all three: merchants, consumers and banks are interdependent with the ability to reallocate costs amongst themselves. That maximizes "value" for all three.

American Express has promised to fight the government aggressively, a move that has already cost the firm in terms of a  heavy hit to its stock price. American Express' CEO, Kenneth Chenault, wrote about the many benefits of credit cards to consumers and merchants in a recent Washington Post op-ed excoriating the government's claim of lower prices for consumers while also suggesting that it would lead to less not more competition in the market place.

Mr. Chennault's essay may be viewed as self-serving but the empirical evidence in other jurisdictions makes his point. Australia enacted sweeping changes to its credit card rules seven years ago including, unlike the recent US change, the ability of merchants to levy surcharges for credit card usage. The result is that credit card customers there now pay more for their cards and receive less in return, and there is no evidence that consumers, including those using cash or other forms of payment, have benefited at all. Neither has overall economic efficiency improved.

Separately, It is also pertinent that the hotel giant, Accor hotels (besides several other merchants) introduced a 1.5 percent fee as a surcharge in Australia in early 2008. US merchants cannot do so even under the new dispensation. The experience of Accor Hotels in Australia after two years of levying surcharges points to scant, if any, resistance from the consumer (hotel guests). There is little reason to suggest a different outcome in the US if it were allowed. Instead, the US emulated only the worst aspect of what was introduced in Australia.  Merchant jubilation over the new found ability to point customers to "cheaper" credit cards ought to be circumscribed.

A logical scenario in the post-decree period in a hotel could result in a hotel front desk employee to suggest to a weary traveler they  use a credit card without rewards to save a few dollars. That is clearly missing the forest for the trees if not shooting oneself in the foot. Major hotel players, like airiines, have branded cards. Discouraging branded cards with rewards attached, which is an expected consequence of the government's move,  will cause hotels to lose at many levels. These range from loss of customers staying with "points" (who tend to spend with real cash while in the hotel) to developing brand loyalty. With regard to American Express, hotels know fully well just how much more desirable customers using those cards are. Beyond that, as a company, American Express is a mine of marketing information for hotel merchants.

So far, hotel companies have stayed out of the fray and not even commented on the DOJ's action unlike the retailing industry. It behooves a closer, if low-profile, look.

Published by

Vijay Dandapani

Co-founder and president of a New York based hotel company for 24 years. Grew the firm to five hotels in Manhattan and also developed a greenfield project at MacArthur airport, New York. Speaker at numerous prestigious forums including Economy Hotels World Asia, Lodging Conference, NYU, Columbia University Real Estate Roundtable, Baruch College's Zicklin School and ALIS. President and ceo of New York City Hotel Association since January 2017.