|by Jason Steele|
Today, I am continuing my discussion of the swipe fee/interchange fee.
Yesterday I presented The Case Against Swipe Fees, and today I would like to present my rebuttal.
The Case Against The Case Against Swipe Fees
Yesterday, I discussed a report by Robert J. Shapiro and Jiwon Vellucci that attempted to add up the costs of interchange fees to the American economy. Unlike previous articles I had read by people opposing swipe fees, this paper was written by actual economists who refrained from merely adding up swipe fees and concluding that they really just like a tax on consumers.
Shapiro and Velluci conclude that approximately half (56%) of the cost of interchange is passed on to consumers, and I am willing to accept that number for the sake of argument. In response, I contend that they do not sufficiently quantify the value to the economy of the rewards given to consumers that swipe fees enable. The authors are clearly aware of this issue as they write:
We note that this estimate does not take account of jobs created by the rewards provided by some cards. However, this factor should be offset entire or in substantial part by our assumption that the transaction and processing costs which are not passed along in higher prices account for 19.5 percent of interchange fees, a 50 percent increase of the rough estimate of 13 percent by previous researchers.
What does this mean? They are not really taking rewards into account, they are just going to round up their figures for their actual cost of of the transaction processing 13% by a random number, 50% and then dismiss the rewards altogether.
What’s worse is that the 13% number itself is just a guess:
One study estimates that 13 percent of interchange fees represent the actual cost of transaction processing. The remainder of these fees goes to cover the rewards, which account for an estimated 44 percent of the total fees, as well as credit card network branding and servicing, and other transaction costs and profit margins for the card issuing banks.50 The authors caution, however, that their findings represent only rough estimates, since banks do not issue the data required to refine such an analysis.
Here, I lose them completely, because they claim that the rewards cover “44 percent of the total fees”. It is only later that they shrink that number down to 50% of 13% or 6.5%.
They are relying on one study to get the 13% of the interchange fee going to the cost of transaction processing, but then discarding the same study’s estimate of 44% of the interchange fee going to rewards. They then mark 44% down to 6.5% for reasons they don’t explain. Remember, all the numbers, by their own admission, are based on guesswork to begin with anyways.
Beyond The Numbers
Statistics issues aside, I still have a problem with concluding that any expense a consumer pays is a cost to society. The idea is that there is a zero sum gain to the economy as a whole between costs borne by consumers and profits made by corporations. The same could be said about jobs. As Mike Duff over at BNet points out in reference to the same study;
As for lower credit card fees adding a quarter million jobs–really? Besides the inherently dubious nature of the assertion that X amount of money translates into Y number of jobs, the retailers ignore the other side of the transaction. To wit: If banks are deprived of profiting from credit-card transactions, which is what the study bases its numbers on, how many bank jobs will be lost?
What About Reverse Robin Hood?
The authors of the study cite the negative cross subsidy effect, since lower income consumers tend not to use reward cards, while higher income consumers do. The idea is that the poor are subsidizing the rich. As one of my readers pointed out in a comment to yesterday’s post, that is an argument against credit cards in general, not just swipe fees. The poor generally pay more interest and fees than rich. This is true for almost all financial products from car loans to mortgages. The reasons are obvious wealthier people are both more financially literate and are less likely to default.
Where Do I Come In?
I admit that I come out ahead between rewards received and whatever interchange fees are passed on to me in higher prices. Deadbeats, rich or otherwise, like myself who don’t pay interest or fees can do a great job of gaining more in rewards from their credit card than the supposed price increase that can be attributed to interchange fees. With some skill, I regularly get about 4% back in travel related rewards from my Starwood Amex card. There are several cards that return 2% in cash back with no skill at all. The study can only attribute possibly 1% of the cost of an item at most to interchange fess beyond actual transaction costs.
Despite the fact that I am winning the interchange fee/reward return arbitrage, I still have to object to the idea that interchange fees are hurting the economy as a whole. Nevertheless, I am in favor of some common sense regulation on interchange fees to ensure that retailers have the competitive market that cardholders currently enjoy. This can be done without draconian price controls or the destruction of status quo where people pay one price for goods and services without regard to their method of payment.