Potential Effects of Durbin Amendment Roil the Debit Card Industry

With the political debate about proposed federal regulation of debit card interchange and card-acceptance terms raging on, analyses of the so-called Durbin Amendment’s effects are emerging. Two new ones suggest consumers would see little or no benefit, if benefit were defined as lower retail prices because of merchants’ reduced card-acceptance costs.

“To be honest, I don't think they will see it at all, or if they do, it will be very difficult to attribute it to a cut in the interchange rate,” Zilvinas Bareisis, an analyst with Boston-based consulting firm Celent, tells Digital Transactions News by e-mail.

In a recent report to Celent clients about possible U.S. debit regulations, Bareisis, who works from London, wrote, “The losers are clear: debit card issuers without a strong acquiring business and a customer base used to transacting with their debit cards at the point of sale. The winners, however, are not obvious at all. The desired outcome of lower costs for consumers is unlikely to materialize, with merchants likely to capture the lion’s share of any interchange reduction.”

Debit card issuers with merchant-acquiring operations wouldn’t get hurt as much as pure issuers because they wouldn’t cut their discount rates, of which interchange is typically the largest component, in proportion to any federally-mandated interchange cut, Bareisis hypothesizes.

Sponsored by U.S. Sen. Richard Durbin of Illinois, the assistant Senate majority leader, the amendment is part of the financial-industry regulation bill that Senate and House of Representatives leaders are now attempting to reconcile. The House version has no interchange provision. Durbin would require the Federal Reserve to assess debit interchange using a standard that is “reasonable and proportional” to the actual costs incurred by the card issuer or payment card network handling the transaction (Digital Transactions News, May 14). Visa Inc., MasterCard Inc., acquirers, and issuers generally oppose the bill, while retailers and consumer groups are lining up for it.

Bareisis notes that interchange cuts might not happen at all, given that Durbin’s amendment needs to survive in conference for inclusion in the final version of the bigger bill. House Financial Services Committee Chairman Barney Frank, D-Mass., took little interest in other interchange bills earlier in the current Congressional session, though regulation proponents are attempting to change his mind (Digital Transactions News, May 25). Plus, the Fed would have to define “reasonable and proportional,” which Bareisis says is “no easy task given that interchange fees are there to balance the incentives in the payment system and tend to cover such difficult-to-quantify items as the payment guarantee and consumer convenience. And the Fed is explicitly not allowed to take into account operating expenses and fraud-prevention costs, which can be quantified and actually are a big issue for the industry.” A recent study by the Pulse EFT network and Celent parent company Oliver Wyman Group found that debit card fraud rates are rising.

In its own analysis, First Annapolis Consulting Inc., which works with issuers and acquirers, says, “the Durbin Amendment is fraught with the potential for unintended consequences” for consumers, small banks, card processors, and even merchants. Consumers will pay more card fees or see benefits reduced as banks seek to recover lost interchange revenue, says the report by Lee E. Manfred, a partner at Linthicum, Md.-based First Annapolis. Merchants could suffer if customers find their payment choices restricted, banks reduce debit card promotions, or networks shift investment away from network utility, according to Manfred. Processors would have only 90 days to figure out how to handle the amendment’s new requirements that include a two-tiered interchange system that would exempt from regulation interchange for banks and credit unions of $10 billion or less in assets.

Durbin’s small-bank exemption is shaping up as a big bone of contention. The Independent Community Bankers of America and some individual financial institutions have come out against it, essentially saying that merchants would have an incentive to favor debit cards from big issuers because of their lower acceptance costs. “While theoretically [small issuers] can receive higher interchange, they could lose on two fronts,” Manfred said. “First, their costs are higher so their margins could remain lower than those of big banks, depending on how ‘actual cost’ is determined. Second, as networks compete for merchant acceptance, the fee paid to small issuers will encounter downward pressure until it equals that of large banks.”

Citing what he said was an “unfortunate” network-led campaign “distorting the impact” of his amendment, Durbin last week sent a letter to Visa and MasterCard warning them “to stop threatening small banks with interchange fee changes and to commit not to take any steps that would purposefully disadvantage small card issuers.”

Meanwhile, The Washington Post reported Tuesday that treasurers in eight states are considering joining Nebraska’s in voicing worries to Congress that debit card interchange regulations could hurt states’ prepaid card programs for distributing unemployment insurance or other benefits. But in a blog posting, economist Dean Baker, co-director of the liberal Center for Economic and Policy Research, said the Post “passes along credit card industry propaganda” by implying that states might return to issuing checks for benefits distribution. Even if states’ prepaid card costs rose to compensate issuers for reduced interchange, “this would almost certainly be far below the cost of writing checks,” he wrote.