Credit-Card Rewards: Who Foots the Bill?
In the competitive world of consumer finance, the decline of debit-card rewards has highlighted the importance of such perks in the battle for 'top of wallet' status among credit cards. This shift, partly due to the Durbin Amendment, has made it more challenging for debit cards to compete with credit cards on rewards.
The Durbin Amendment, a regulation that caps debit-card interchange fees, has inadvertently steered some consumer spending towards credit cards. This change has left debit-card users, often referred to as 'credit averse' by economist Lulu Wang, with fewer incentives to use their cards.
Wang's mathematical model suggests that capping merchant fees at 1 percent could boost total welfare by an impressive $29 billion. Encouraging more debit-card usage, however, might not be the most robust policy, according to the study. The highest costs for bonus points issued by credit card networks are primarily borne by the merchants who pay interchange fees when customers use their credit cards. These costs are often indirectly passed on to consumers through higher prices.
Credit-card companies offer rewards as a means to attract and retain customers. The introduction of a new private payment network, on the other hand, could decrease total welfare by $4 billion, according to Wang's analysis.
Every credit card transaction involves a consumer, a merchant, a merchant bank, a network, and the consumer's card issuer. Payment networks, such as Visa, MasterCard, American Express, and Discover, set the rules, fees, and rewards for credit cards.
Wang's model assumes a market where customers have multiple cards to choose from, merchants can choose whether to accept cards, and networks compete to become the customer's preferred card. In such a scenario, the loss of debit-card rewards could lead to a 30 percent decline in debit-card payment volumes and a corresponding increase in credit-card payment volumes, as consumers seek out the rewards offered by credit cards.
The study finds that introducing new private networks or government-sponsored networks would have little effect on the market. A public-network option, while increasing total welfare only modestly, could boost it by about $2 billion, according to Wang's model.
Despite the high merchant fees associated with credit cards, merchants often find the increased sales they generate from accepting credit cards worth the cost. Repealing the Durbin Amendment's cap on debit-card interchange fees could benefit consumers to the tune of about $7 billion.
For consumers who are wary of the risks associated with credit cards, sticking with a debit card may still be a reasonable choice, as suggested by Lulu Wang. Merchants' sales increase around 30% from accepting credit cards, despite high merchant fees, but the rational consumer response, according to Wang, is to do whatever makes sense for their financial health and get the rewards if they want.
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