Why It Costs Businesses Money To Accept Credit Cards

By Author: Hugh Springer
Total Articles: 4762
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Credit cards have been getting a lot of news coverage lately. Congress apparently believes that the political process is superior to the financial markets, or contractual relationships, in setting appropriate interest rates and fees. People are entitled to their own opinions, of course-but not to their own facts. It may help to explain here why it costs businesses money to accept credit cards, so that the discussions can at least remain relevant to the real world.

A merchant's bank pays an interchange fee to a customer's card-issuing bank for every purchase. The credit card networks (Visa, MasterCard) set the fees, and also get a portion of the proceeds. These fees help cover the not insignificant cost of implementing and running their credit and debit card operations. Swiping a card or handing it to a waiter may seem a simple thing to do, but these transactions happen millions of times each day around the world and rely on a vast, global, high-technology infrastructure. Simply put, there is a lot of hardware, software, electricity and human energy needed to keep things running smoothly for buyers and sellers using plastic.

Two-way ...
... street

Clearly, there are instances of abuse in any human system, but there is no simplistic "predator and victim" scenario playing out for American credit-card users. Consumers receive crucially important benefits that include increased purchasing power, tremendous convenience and the sense of security that derives from the ability to make emergency purchases around the world at any time. Merchants also enjoy great benefits from the system, beginning with the fact that payments are guaranteed, secure and fast.

Consumers do tend to spend more when they have access to additional, liquid cash sources. Just as important as more "impulse" buys are the savings that merchants realize through a reduction in fraud and theft, and time savings through the elimination of counting, storing and transporting large amounts of cash. One very important and typically overlooked advantage to this system, the card procedure effects a legal "transfer of risk"-from merchants that are guaranteed the funds to the financial firms that take on the risk (of default, non-payment, fraud, etc.). Accounting for this risk is one of the calculations that, taken together, come up with the appropriate, economically "rational" interchange fee.

Micromanagement vs. principle

Despite the benefits all parties enjoy under the present system, the U.S. Congress has seen the introduction of various pieces of legislation to cap fees, limit interest rates and otherwise micromanage the system. Some proposals would exempt merchants from America's antitrust laws, while others would allow bureaucrats or various panels of judges to set fees. More than a few of the recommended changes are, in fact, textbook definitions of collusion, and without new exemptions would result in clear violations of existing antitrust law.

Incredibly, there is legislation pending in the Senate that would empower a new, three-judge panel to set interchange fees that, in its opinion, would result from a "hypothetical perfectly competitive marketplace." Notwithstanding the fact that no one could possibly know what that kind of marketplace would look or act like, it seems astonishing that Americans are willing, once again, to give authority over their own finances to politicians. While there are certainly plenty of principled, ethical and personally trustworthy advocates for the entire range of opinions, the problem is not one of intentions, but of "unintended consequences."

The "freer market" option

The interchange fee is the primary means by which the risks of the merchant's bank are factored into the overall formula. Whether the amount is too high or too low is not a matter that is best handled through the political process, say many commentators in the financial press. For all the lumps it has been taking in the media and from unelected tyrants around the world, free markets (rather, the world's "freer" markets) are still the most appropriate places for fees, prices, costs and savings to be determined.

The laws regulating commerce, credit and interest rates are already in place, and quite numerous, and have been integrated into the fee-setting formula over time. While politicians and activists have injected themselves into the formula, too, the system as presently composed is a reasonable, transparent and well-regulated one. As long as all parties enter into rate and fee negotiations with honest intentions and clearly expressed expectations, a system of mutual advantage can be maintained-and even improved. Time will tell, then, if we will see more top-down controls for setting credit card fees, or watch a somewhat longer but more natural, bottom-up process make the appropriate adjustments to these costs.
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At Card Processing Pros.com we provide credit card processing and debit card processing, literally setting up hundreds of clients per month to process card payments for storefront, Internet and phone/mail order-based businesses. We also offer services in electronic check and gift card processing. Visit online today.