Why Debit Cards Will Survive with Lower Swipe Fees

From: American Banker

Mark Horwedel

Many in the banking industry are proclaiming the sky is falling in light of the European Union’s recent move to cap interchange fees and a U.S. federal court ruling that current debit swipe fee caps are too high. What these doomsayers conveniently forget is that the business case for introducing debit cards was one of cost avoidance for the banks, not revenue. That rationale for debit holds true today.

When debit was developed in the 1970s and 80s, interchange – the fee charged to merchants and paid to the card networks and banks everytime someone uses a debit or credit card – was not even a part of the equation.

Since I ran a PIN debit network during much of that time, I’d like to offer a little history.

Banks initially developed debit cards for use at ATMs. The rationale was to lower costs by reducing the use of checks and live tellers. Automated solutions for cash withdrawals, like ATMs, were simply a less expensive means of conducting business with banks’ accountholders.

Not long after individual banks and credit unions introduced ATM services, the industry recognized that the best path toward ubiquitous automated services was to form ATM networks. Networks were mandated by law in several states, and they soon came to be the standard for banks and credit unions offering ATM services.

After many years of building the existing ATM business, the networks leveraged their investment in ATM infrastructure by extending it to point-of-sale. Before this, the two prominent signature card networks, Visa and MasterCard, had failed to spark interest in debit cards used in stores. Despite those failures, banks were eager to promote widespread point-of-sale debit acceptance to eliminate the considerable cost of processing checks.

The first significant point-of-sale debit usage occurred mostly in Midwestern states, and there were little or no interchange fees charged. In fact, merchants were often given equipment or paid monetary incentives to accept PIN debit. I don’t have absolute insight into what other networks did, but the network I ran, Money Network, did not collect any fees from the merchants who accepted the cards.

At first, PIN debit volume grew slowly since PIN pads were not commonly used by merchants, outside of a handful of early adopters, primarily gas retailers.  Eventually, national retail chains caught on and began accepting PIN debit. Debit reached critical mass by the early 1990s, built solely on the business case of reducing costs for card-issuing banks and providing convenience to cardholders and merchants.

The growth of PIN debit at the point-of-sale caught the attention of the signature networks, Visa and MasterCard. They responded with newer versions of debit products and successfully sought out partnerships with the existing PIN debit networks, leveraging their technical infrastructure to provide connectivity to the card-issuing banks.

Eventually, the signature networks built such a presence in the debit market that they no longer needed their PIN debit network partners.  Visa and MasterCard then offered a value proposition to the banks that the other networks could not. By requiring that merchants accepting their credit cards must also accept their debit cards, Visa and MasterCard found they could extract debit interchange from merchants.

In the hands of the signature networks, debit interchange became a new source of revenue that today is viewed by the banks as a natural right.

However, this gambit by Visa and MasterCard, which came well after debit usage reached critical mass, does not alter the fundamental business case upon which debit was built.  In the 1980s, issuers were better off with zero-interchange debit than they were with checks and tellers. They will be better off today and into the future with reduced interchange revenue instead of reverting to checks and cash withdrawals.

Some may say that there was a grand plan to introduce and steadily increase interchange once point-of-sale debit was kick-started with zero interchange and merchant incentives.

However, I was among those debit network captains who would have hatched such a plan, and I’m here to tell you it was simply not the case. Merchant incentives no doubt would have ended, but we never envisioned charging the fees that the signature networks used to attract issuers to their debit products.  There was no need for interchange to make debit at the point-of-sale a good value proposition for everyone involved, including debit card-issuing banks.

My point here is not to engage in the argument over interchange, but to point out that the sky is not falling for debit as a result of recent rulings.  Banks need debit. It helps them serve their customers more efficiently and cost-effectively, even without high interchange fees. Their customers demand debit, and they will continue to offer it as long as they offer checking accounts.

Mark Horwedel is CEO of MAG, the Merchant Advisory Group. He has been in the payments industry for over 30 years serving in a variety of roles including CEO of Money Network, a PIN debit network operating in the 80s and the 90s, and director of Payments at Wal-Mart.


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