Merchants rejoice? Credit card interchange regulation is on the table with the Credit Card Competition Act of 2022. But the new rule proposed by Senators Dick Durbin and Roger Marshall is pretty unusual, and the researchers at Glenbrook have been hard at work trying to figure out what it means for the industry. How is it different from existing debit interchange regulation and credit interchange regulation in other jurisdictions? And how will players across the value chain react if the rule takes effect? Will anything really change? Glenbrook’s Justin Pituch joins Yvette Bohanan to discuss potential implications.
Yvette Bohanan:
Hello, everyone. Welcome to this edition of Payments on Fire: Fanning the Flames. I’m Yvette Bohanan, one of the partners at Glenbrook. And with me today is Justin Pituch. Justin, welcome to Fanning the Flames.
Justin Pituch:
Thank you, Yvette. It’s great to be here.
Yvette Bohanan:
It’s always so much fun to talk with you. Justin. You have been busy trying to decipher a proposed regulation, a proposed act, if you will, in the US. I think decipher is the right word. So today, we’re actually talking about the proposed Credit Card Competition Act of 2022. And this was just introduced in late July by Senators Dick Durbin and Roger Marshall. Now, to those of you in the United States, the Durbin Amendment from 2008, 2009, era of banking reform and regulation is not new to you. But for those of you that maybe aren’t in the US and are listening, the Durbin Amendment was actually part of the Wall Street reform bills and acts that went through our legislative process.
Yvette Bohanan:
And what Durbin did is it regulated debit card interchange in the United States for certain banks, certain very, very large banks. And as a result, a lot of things have happened. You always have in life intended and unintended consequences, and regulation is no different. But a lot of the questions that we get in our workshops and in our client engagements with various folks is, will the United States ever regulate credit card interchange? And it’s a great question. And today, Justin is joining me because our answer right now is definitively, maybe, sort of, someday, as a result of looking at this proposal. So Justin, you’ve been digging into this, how do you want to unpack it?
Justin Pituch:
I think it might help to unpack it by talking about how it’s different from the Durbin Amendment and get into what the bill actually proposes. I think that it would be pretty interesting to start with what’s similar with Durbin and then we can get into what sets it apart. The original Durbin Amendment regulated debit interchange for large banks and set interchange caps for those large banks. This bill is a little bit different and you can tell that it has sort of a bipartisan flavor to it. Dick Durbin as a Democrat from Illinois and Roger Marshall is a Republican from Kansas.
Justin Pituch:
It’s not so much capping interchange or setting interchange, but introducing competition to the system that’s designed to, hopefully, in the eyes of Durbin and Marshall, lower interchange through passively… The way that this works here is that for large banks, banks that have assets over $100 billion, those issuing banks issuing credit cards would be not allowed to restrict the number of networks that they can pass credit card transactions over. The idea is to create alternatives to Visa and MasterCard for credit card processing.
Justin Pituch:
As a practical example, if I were to go to a hardware store with my Chase Sapphire card instead of necessarily being routed over Visa rails, that transaction could be routed over some alternative network.
Yvette Bohanan:
Okay. So that has a big difference between what we’ve seen in terms of credit card interchange regulation or even debit card in other countries and in the EU where they just came in and as a regulatory action, they just capped for everyone, every bank, this is the max, you of course can charge less, nobody would want to do that, but you can’t charge anymore. And we saw that in Australia, we’ve seen that in the EU and in other countries. In the US, with the Durbin Amendment for debit interchange, we have this, you’re regulated or you’re exempt, large banks, small banks. And then there were also provisions within that for debit where you had to support two non-affiliated networks and you had to give merchants choice over where they routed their transactions.
Yvette Bohanan:
So this proposal, this Credit Card Competition Act of 2022 is taking a little bit of that flavor and trying to apply it in some way to cards. So we still have the large banks in the line of sight here, we have this notion of choice, unfettered choice, if you will. Are they proposing a particular cap on the in-scope issuers or networks?
Justin Pituch:
No. It’s really narrowly focused on promoting competition and providing alternatives to Visa and MasterCard specifically. And the bill talks about the two largest credit card networks in the US, so that could change from being Visa and MasterCard. But as of today and for the foreseeable future, that is Visa and MasterCard. So it says that if you are a very large issuer and you are issuing Visa or MasterCard credit cards, you have to make sure that there’s another way for those transactions to be routed.
Justin Pituch:
And I think the interesting thing too is that it’s saying that, and this is an interesting point in terms of, I think, Durbin’s vision of breaking up the Visa, MasterCard, duopoly, or at least lessening some of its influence, is that MasterCard can’t be the fallback for a Visa transaction and Visa can’t be the fallback for a MasterCard transaction. It really has to be some other completely different network.
Yvette Bohanan:
So they’re basically saying, “In the case of debit, we’ve capped it. But in the case of credit, the market will dictate”?
Justin Pituch:
Yeah, great.
Yvette Bohanan:
Fascinating. What so you think is going to happen? Are there winners and losers? Are there clear outcomes here? These things are systems, we’re talking about an open loop card system.
Justin Pituch:
Yeah. It was helpful for me to go back to Glenbrook’s book, Payments Systems in the U.S. Volume Three.
Yvette Bohanan:
And a nod to Carol Coye Benson. Shout out.
Justin Pituch:
Exactly. Interesting. What makes a credit card network function? There are a couple of things that set up a couple of different players really well if this bill passes. I think I want to pause there and say that it’s very unclear whether or not this bill will pass. The outlook is murky at best and there’s a lot of opposition to the bill, especially from the financial services industry. There’s a lot of support among merchants, but there’s a lot of opposition from financial services. So it’s a teeing up of… Well, I don’t know if it’s teeing up. I’m not sure where this bill is going to go. But with that, if it were to pass, I think there are some clear winners and losers here.
Justin Pituch:
And so thinking about what a credit card network needs to do, it needs to facilitate communication between banks. You need to be able to send a message from an acquirer to an issuer, from an acquirer to the acquiring bank and say, “This transaction is authorized, there’s an open to buy to make this transaction happen.” And then at the end of the day, you need to settle up between the participants and the network. There’s a lot of network policies, rules, regulations, enforcement. But the key technical component is that interbank network where you can send an authorization message and settle funds at the end of the day. And we think of that as a dual message system, if you are an avid reader of the Glenbrook book
Yvette Bohanan:
Or into all of these different types of messaging protocols.
Justin Pituch:
Exactly. Exactly. So I think that the people who are well positioned to do that are probably 10 debit networks. Don’t spend a lot of time thinking about the Nices and STARs of the world, but I think that they
Yvette Bohanan:
Nice, STAR, PULSE, they’re the ones always come to mind.
Justin Pituch:
So they have connections between all these different banks and already operate networks between them. The thing that’s a little bit weird about a Durbin-Marshall world if the bill passes, is that they would need to retool their networks to support dual message as opposed to single message, as in a PIN debit world transactions clear and subtle at the same time, or often subtle at the same time. There’s a little bit of a difference there and would certainly require some technical approve. I think that the person or the group that it stands to benefit the most from this or that is best positioned to benefit is Discover since they operate both a credit network and a PIN debit network. They have the Discover Credit Network, but then also the PULSE PIN debit network.
Yvette Bohanan:
They’re closest to the core here of what they’re trying to get in terms of switching and routing capability. And of course, Discover does all sorts of stuff for card networks all over the globe, with their reciprocity protocols and that. So opening up lines of communication, we’ll call it on the messaging side, is something Discover has had as their core value prop for decades literally.
Justin Pituch:
Yeah.
Yvette Bohanan:
Interesting.
Justin Pituch:
I think that that’s a place that could see a lot of change in the endeavor world if those networks want to move into their credit card space. I think that’s a pretty exciting thing to think about here. I think the other thing that might be interesting, and this might have a lower acceptance rate, but thinking about how big issuers could band together to create their own entry bank network along the lines of, maybe Zelle is a good example. Another opportunity to think about how incumbents might react, especially as big issuers, I think they’re worried about decline in rewards coming out of this as well and the fact that that might have on their credit card consumers. So that’s another place that I would pay attention to.
Yvette Bohanan:
There are a lot of moving pieces just within the card ecosystem and I think that you’re hitting on a few things that the spirit and intent of what this act would produce would be a slightly more competitive playing field with some of the networks that don’t enjoy quite the market share getting a chance at some of that volume in a more meaningful way through the regulation. I don’t know if that necessarily means interchange lowers.
Justin Pituch:
A totally valid point to bring up.
Yvette Bohanan:
And there was an important lawsuit that occurred many years ago where American Express actually sued because they wanted to have the ability to offer the opportunity for issuers to issue American Express cards along with Visa or Mastercards. And at the time, that was disallowed by the operating rules of the Visa and Mastercard networks. And everyone thought that if American Express were to win that lawsuit, that it would lower interchange for issuers and for merchants ultimately because that’s what makes up a large percentage of the merchant discount fee that they pay to accept cards.
Yvette Bohanan:
And what actually happened was that interchange went up, and it went up because when the networks realize that issuers would have a choice and not necessarily have to promote Visa or Mastercard, they realized that the way to incentivize them to continue to promote Visa and Mastercard to their customers would be to give them more money. And that meant raising interchange, not lowering it. So yes, Amex I believe won the suit, but at the end of the day, that didn’t actually do what people thought it might do, which is lower interchange. So these systems are based on incentivization that is really fundamental and if you understand the incentives, you start to peel back competition doesn’t necessarily lead to lower pricing.
Justin Pituch:
Yeah. I think immediate reaction to that is that the competition there was amongst networks for issue of business. And I think that to me makes a lot of sense, and so having the [inaudible 00:15:43] back to… from Durbin’s perspective at least of raising interchange. I think that here the competition is amongst networks for merchant routing where through your acquirer you’ll be able to say, “I want to route over VisaNet, or PULSE Credit Net, or whatever it might be. And I think that is where you’re getting into an environment where I actually see it is likelier for interchange to come down.
Justin Pituch:
But I also see a scenario in which that doesn’t necessarily happen as networks still compete with each other to get issuers support for that. Because the issuer at the end of the day is the person who’s choosing if they want to route over network A or network B in addition to Visa or Mastercard.
Yvette Bohanan:
And it is interesting too because one of the things we always emphasize is that merchants or businesses, broadly speaking, fundamentally their first priority is to get paid. And then pending on the segment or industry category, their second, their third priorities may differ. People always think the first priority is to lower cost, it’s not, it’s to get paid. And so as a merchant, you’re always doing this calculus of, how do I make sure that whoever shows up online or walks into my store, whatnot, has the ability to pay me? And am I offering the right ways to allow them to pay me and for me to accept their money?
Yvette Bohanan:
And that takes a decent footprint. And you can hear that in all the branding of the networks like Visa, everywhere you want to be, all of that sort of thing. So now you’re trying to say, does it work when you shift the balance? Will merchants care enough about the cost that they actually start to play around with this and will issuers be incentivized the right direction to offer the right multiple options? So you have this full calculus going here that you’re trying to balance, rebalance an equation based on motives or motivations that haven’t necessarily changed, but what’s happening around those motivations is changing. So you never really know how things are going to shake out.
Justin Pituch:
I can totally see a world in which, take Chase as a huge issuer, they build passes and they need to set up some alternative to Visa for their credit cards. And they go with some network and let’s just call it PIN debit Network X, and PIN debit Network X is saying, “Yeah, we’ll be an alternative to Visa so that you can comply with the rule, but we’ll have basically an identical interchange table. We will give you the same amount of money as Visa does from the merchants.” And merchants have no reason to distinguish between them and Visa. It’s easier to just go with Visa.
Justin Pituch:
There are benefits in terms of all the value add that Visa brings to merchant acceptance that PIN debit Network X might not have. And so in that scenario, nothing changes, interchange doesn’t go up, interchange doesn’t go down, and there’s some additional little technology built into your Chase Sapphire card, but that is as far as it goes.
Yvette Bohanan:
Quite possible. So we could have status quo, we could have big change, we could have change that no one was expecting. So this is the fun of payments. This is what puts the interesting dynamic into all of the payment systems is they are systems and systems can be predictable, but systems can also be unpredictable.
Justin Pituch:
Great. So my money is either on nothing changing or Discovery taking over the world.
Yvette Bohanan:
There you go. Okay. Well, we’re going to have to see, first of all, does this thing take off?
Justin Pituch:
Yeah, exactly.
Yvette Bohanan:
And then in a year or two later, Justin, you have to come back to Payments on Fire and we’re going to have to do a redox of what happened and we’ll see if that actually materializes.
Justin Pituch:
I would love to.
Yvette Bohanan:
Okay. Well, it’s a date. Thank you so much for joining us. Thanks for all of your time digging into this and thoughtful commentary. And with that, we’re going to conclude this Fanning the Flames. Thanks everyone for tuning in and until next time, do good work. Take care.
