Texas’ House and Senate are considering legislation to regulate payment-card transactions, with bills that proponents claim would save millions of dollars for merchants and consumers. The evidence, however, suggests that the benefits would accrue mostly to big-box stores, while smaller merchants and consumers will both suffer.
H.B. 4061 and S.B. 2056 would prohibit card-issuing banks from retaining interchange fees on the sales tax and tips portions of a card transaction. This is similar to an Illinois law currently subject to a preliminary injunction for violating federal law.
But the Texas bills would go further by prohibiting banks with more than $85 billion in assets from coordinating with other banks to set interchange fees, or from using the default multilateral interchange fees set by Visa and Mastercard. Supporters claim this will foster competition and drive down costs for everyone. While some big-box chains might see savings, smaller retailers will face higher transaction fees and consumers would see prices rise.
To understand why, consider how the fees currently work. After a consumer swipes their card, the cardholder’s bank pays the merchant’s bank the amount billed, minus an interchange fee. Since such fees were first established, default rates have been set by the major payment networks, with a uniform rate applied to any particular type of card. The only exceptions are a few of the largest merchants, such as Costco, who have been able to negotiate lower rates with issuers, usually in return for exclusivity.
The default fee helps to solve the coordination problem that would otherwise crop up if the more than 5,000 U.S. banks and credit unions each attempted to set fees individually. Having uniform rates also creates certainty for issuers, who use the fees to fund fraud prevention, cardholder rewards, insurance, and other benefits. They’re also used to fund network fees, which cover investments in innovations like contactless payments and tokenized transactions that have dramatically improved the shopping experience and reduced fraud.
Economists have shown that having a default fee usually maximizes welfare. Merchants who want to accept cards issued by one bank on a network like Visa or Mastercard are generally required to accept all cards in that network. Knowing that merchants are required to honor all cards of a particular network gives consumers confidence to use a card displaying that network’s brand. Merchants also benefit when consumers use the card more often, as card-using consumers spend more, and checkout is usually quicker.
If merchants were required to honor all cards, but issuing banks could set fees independently, then each bank would have incentives to charge higher fees for itself, while spreading to all the other issuers on the network the risk that some merchants would stop taking that network’s cards.
The risk of a merchant dropping a network also varies by merchant size. Major grocery and department-store chains often have the advantage of bargaining power, which lets them negotiate special deals with large banks. Large retailers can typically extract lower rates by threatening only to accept cards on one network. Not wanting to lose access to the millions of transactions that flow through big-box stores, banks are likely to offer them customized, discounted interchange fees.
Small merchants lack that leverage. Big banks have little incentive to negotiate a custom fee schedule with “mom and pop” shops, such as independent restaurants or boutiques. Instead, they will impose take-it-or-leave-it terms, which could be significantly higher than today’s default interchange fees. The net effect is that smaller businesses would likely end up paying more to accept credit and debit cards, and at least some of that cost will be passed on to consumers.
In a state that prides itself on entrepreneurship and small-business vitality, lawmakers should tread carefully. HB 4061 and SB 2056 risk tipping the playing field further in favor of mega-retailers, to the detriment of the smaller local businesses that Texans hold dear.
