Visa Suggests an Interchange Plan to the Fed; Merchants Blast It

Visa Inc. and a prominent law firm serving financial-industry clients want the Federal Reserve Board to regulate debit card interchange by setting an “average effective interchange rate” and then letting the payment card networks set their own rates as long as the average interchange rate on transactions subject to regulation meets the Fed’s benchmark. But the National Retail Federation, a strong supporter of interchange regulation, immediately blasted the plan as a way to preserve the status quo.

The comments Visa and Morrison & Foerster LLP submitted to the Fed come as the central bank continues preparing the first draft of regulations that will implement the payment card provisions of the Dodd-Frank financial-reform law that Congress passed this summer. The law’s controversial Durbin Amendment orders the Fed to devise debit card interchange regulations and upends some longstanding payment card network rules and practices with the goal of lowering merchants’ card-acceptance costs. The Fed is expected to disclose its preliminary rules next month.

The letter from Visa, dated Nov. 8, and Morrison & Forester, dated Nov. 5, contain very similar language in many areas, though whether the two organizations worked together on them is not clear. Visa would not say if it is a current M&F client. The law firm’s letter begins by saying, “This letter is on behalf of a number of institutions that participate in the debit card industry in this country” but does not name any. Oliver I. Ireland, the partner at M&F’s Washington, D.C., office who signed the letter, did not respond to a Digital Transactions News e-mail requesting comment.

Both letters—Visa’s is from executive vice president and general counsel Joshua R. Floum—suggest four possible ways the Fed could implement Dodd-Frank’s requirement that debit interchange be “reasonable and proportional” to issuers’ costs. The first would be to set a cap providing for one or more interchange rates. The second would establish specific rates for specific types of transactions. A third would define the types of costs that would be included in a permissible interchange fee and then have the payment networks establish transaction-based rates.

The fourth, according to M&F’s letter, would have the Fed “establish an average effective interchange rate that an issuer may receive for all debit transactions and then permit a payment card network to establish various interchange rates so long as the effective average of the rates ultimately charged through the network adheres to the Board-established overall average effective interchange rate.”

Both Visa and M&F endorsed the last option. “It would have the effect of reducing overall effective debit interchange rates, while recognizing issuer costs for debit transactions plus a reasonable return on investment,” M&F’s letter says. “Moreover, the Average Effective Model would not only reduce interchange costs to businesses accepting electronic transactions and provide a simplified framework for the industry, but would also provide the Board with a framework that would be relatively easy to monitor, update and enforce.”

The system also would enable networks to set interchange rates based on merchant size, industry segment, and acceptance channel (card-present versus card not present, for example), much the way networks currently set interchange. The average-rate system would function as a “safe harbor” for issuers that could be deemed in compliance as a long as their debit transactions meet its terms, M&F’s letter says.

The three other options all have drawbacks, Visa and M&F say. Caps would cause problems, notably debit card issuers losing money on some transactions. Establishing specific rates for specific types of transactions could cause similar problems and require the Fed to gather much more data than it has so far through its issuer and network surveys, Visa says. And the third option, defining the types of issuers’ costs that could be included in interchange rates, “would be far more cumbersome for the Board to enforce and for issuers and networks to comply with.”

But it didn’t take long for the Washington, D.C.-based National Retail Federation to criticize the average-rate proposals. “If you look at them in total, they’re saying to the Fed, ‘ignore the law,’” says Mallory Duncan, the NRF’s senior vice president and general counsel. “It’s a thinly disguised effort to rubber-stamp the status quo. That’s what hits me.” The NRF has suggested that the Fed keep in mind that checks, which draw funds from the same demand-deposit accounts as debit cards, clear at par. Visa declined comment on the NRF’s assessment.