Visa Dominates Debit Card Market by Charging More
Interesting analysis of the debit card industry by Andrew Martin, who explains how Visa gained dominant market share by charging more for its services.
When you sign a debit card receipt at a large retailer, the store pays your bank an average of 75 cents for every $100 spent, more than twice as much as when you punch in a four-digit code. The difference is so large that Costco will not allow you to sign for your debit purchase in its checkout lines. Wal-Mart and Home Depot steer customers to use a PIN, the debit card norm outside the United States.
Despite all this, signature debit cards dominate debit use in this country, accounting for 61 percent of all such transactions, even though PIN debit cards are less expensive and less vulnerable to fraud.
How this came to be is largely a result of a successful if controversial strategy hatched decades ago by Visa, the dominant payment network for credit and debit cards. It is an approach that has benefited Visa and the nation’s banks at the expense of merchants and, some argue, consumers.
Competition, of course, usually forces prices lower. But for payment networks like Visa and MasterCard, competition in the card business is more about winning over banks that actually issue the cards than consumers who use them. Visa and MasterCard set the fees that merchants must pay the cardholder’s bank. And higher fees mean higher profits for banks, even if it means that merchants shift the cost to consumers.
Seizing on this odd twist, Visa enticed banks to embrace signature debit — the higher-priced method of handling debit cards — and turned over the fees to banks as an incentive to issue more Visa cards. At least initially, MasterCard and other rivals promoted PIN debit instead. As debit cards became the preferred plastic in American wallets, Visa has turned its attention to PIN debit too and increased its market share even more. And it has succeeded — not by lowering the fees that merchants pay, but often by pushing them up, making its bank customers happier.
It’s a reverse form of competition but one that makes sense. The “customer” here is not really the card holder but the card issuer. For card holders, the amount charged merchants is immaterial so long as they don’t have trouble using their cards. Indeed, I don’t know offhand what my various cards charge merchants.
Critics complain that Visa does not fight fair, and that it used its market power to force merchants to accept higher costs for debit cards. Merchants say they cannot refuse Visa cards because it would result in lower sales. “A dollar is no longer a dollar in this country,” said Mallory Duncan, senior vice president of the National Retail Federation, a trade association. “It’s a Visa dollar. It’s only worth 99 cents because they take a piece of every one.”
Visa officials say its critics are griping about debit products that have transformed the nation’s payment system, adding convenience for consumers and higher sales for merchants, while cutting the hassle and expense of dealing with cash and checks. In recent years, New York cabbies and McDonald’s restaurants are among those reporting higher sales as a result of accepting plastic. “At times we have a perspective problem,” said William M. Sheedy, Visa’s president for the Americas. “Debit has become so mainstream, some of the people who have benefited have lost sight of what their business model was, what their cost structure was.”
James Kwak asks, “Tell me again, how does this benefit society?”
While this was meant rhetorically, the answer is that it has promoted ease of use. It’s inconvenient and dangerous to keep enough cash on hand for one’s purchases, so debit cards benefit consumers. Checks take quite a bit of time to process and are notoriously unreliable, forcing merchants to either accept the risk of nonpayment, pay for expensive verification systems, or both. Debit cards eliminate these hassles.
Nowadays, I use my debit card solely to withdraw cash from an ATM; I prefer credit cards that offer points toward airline miles and hotel stays. As a college student a quarter century ago, though, I used debit cards because I didn’t earn enough to get a credit card (Yes, there was a time when getting a credit card was tied to earnings!) and many merchants would not accept checks. Debit cards were a check replacement, since they were indistinguishable from credit cards.