Fed Doubles Down On Bet To Raise Swipe Fees

Yesterday, the Federal Reserve Board told a U.S. judge it would appeal his decision that the Fed's 2012 rule raising the swipe fees merchants pay to accept debit cards blatantly ignored Congressional intent to lower them. The Fed's rule harms small businesses, who pay the highest swipe fees in the world, as well as their customers, who pay more at the store and more at the pump, even if they pay with cash. But it helps the Fed's big bank patrons.

Swipe fees are the fees stores pay to accept credit and debit cards. The fees are generally passed along to all customers, even cash customers. Numerous courts have found that Visa and Mastercard use abusive market power to force merchants to accept their highest in the world, non-negotiable swipe fees. Since the market wasn’t working, Congress stepped in and ordered the Fed to write a rule lowering anti-competitive swipe fees.

The Fed, instead, raised them. Last month, here in DC, U.S. District Judge Richard Leon held that the Fed had blatantly ignored Congress.

But yesterday Federal Reserve Board General Counsel Scott Alvarez told Judge Leon it would appeal his July 31 opinion that the Fed’s 2011 rule raising the swipe fees merchants pay to accept debit cards broke the law by ignoring Congressional intent to lower them.

The Fed’s rule raising swipe fees harms small businesses, as well as their customers, who pay more at the store and more at the pump, even if they pay with cash. But it helps the Fed’s big bank patrons.

Swipe, or interchange, fees generally include a flat fee plus a percentage of the transaction, which can range from 1% for a plain non-rewards debit card to as much as 4% for an airline rewards credit card. The merchant has no choice to decline the more expensive cards. If you take one card in a brand, you must “honor all cards,” under Visa/Mastercard network rules.

The Fed’s initial draft rule had actually proposed lowering swipe fees, as Congress had intended, to between 7-12 cents per average transaction, but the final rule doubled that amount to 24 cents. Visa and Mastercard immediately raised minimum swipe fees to around 24 cents per transaction, even though several small business sectors had previously paid lower rates in the 15-18 cents range. So, swipe fees went up, not down. The Fed stated that swipe fees would average “24 cents for the average debit card transaction, which is valued at $38.”

In his opinion, Judge Leon stated that the “Board has clearly disregarded Congress’s statutory intent by inappropriately inflating all debit card transaction fees by billions of dollars.”

The Fed’s rule was required to implement the PIRG-supported Durbin amendment to the 2010 Wall Street Reform and Consumer Protection Act. The Durbin amendment was supposed to lower the fees merchants pay Visa and Mastercard to accept debit cards. The bulk of the swipe fee goes to the card user’s (or issuer) bank. The Durbin amendment lowering swipe fees only applies to debit cards issued by big banks; smaller banks, under $10 billion, are exempt.

Congress passed the amendment because for too long merchants had been forced to accept non-negotiable swipe or “interchange” fees due to what several courts have called the excessive “market power” of Visa and Mastercard. Market power simply means that while a merchant can choose to ignore America Express or Discover, ignoring Visa or Mastercard is impossible because it would anger customers. Merchants have to take Visa and Mastercards or lose business. Further,  merchants cannot negotiate price; they are forced to accept Visa/Mastercard terms. As the court explained: “Merchants know that if they do not accept those cards and networks, they risk losing sales, and “losing the sale would be costlier to the merchant than accepting debit and paying the high interchange fee.”

In many cases, these fees are the second-highest cost of business for small merchants, after the cost of acquiring the items that they sell, but before the cost of rent, salaries and utilities. Burdensome contractual provisions with Visa and Mastercard also generally force merchants to pass the costs along to all their customers, rather than offering cash discounts or imposing surcharges for paying with plastic. Another provision of the Durbin amendment prohibits some of these terms, which had even prevented merchants from suggesting that consumers use cash, or a lower cost card. The Durbin amendment also limits the networks’ ability to use anti-competitive practices to limit the number of networks available to merchants.

The revenues on too-high, non-negotiable swipe fees are used to increase rewards to cardholders — meaning cash customers at the store are paying more, not just to cover bank costs, but to pay for cardholder miles and other rewards. A recent study by three Boston Fed economists has confirmed the cross-subsidy from cash customers to presumably more affluent credit card rewards customers.

“On average, each cash-using household pays $149 to card-using households and each card-using household receives $1,133 from cash users every year. Because credit card spending and rewards are positively correlated with household income, the payment instrument transfer also induces a regressive transfer from low-income to high-income households in general.  On average, and after accounting for rewards paid to households by banks, the lowest-income household ($20,000 or less annually) pays $21 and the highest-income household ($150,000 or more annually) receives $750 every year.”

So, some of the swipe revenue ( a lot of it, actually) merely goes to promote more use of cards. While opponents of swipe fee reform claim that banks will need to raise checking account fees to recoup the billions of dollars in ill-gotten swipe fee revenue that a fully-functioning, properly implemented Durbin amendment would eliminate, banks could simply eliminate debit card rewards without raising fees.

Doubtlessly, one reason that the Fed decided to challenge the court’s ruling was to continue to assert its presumed regulatory power. By rejecting both Congressional and judicial control over its authority, the Fed appears to its patrons to have more authority, including in its other actions. But by doubling down on this particular bet, the Fed is taking a big risk. The court was very clear in its detailed analysis that the Fed was simply wrong. Judge Leon made his points in no uncertain terms. A few examples of his reasoning follow:

“This result [the Board’s analysis] makes no sense, and more importantly, it is not the law….I reject the Board’s construction of the Durbin Amendment as non-compliant with Congress’s clear mandate….[The Board’s analysis] runs completely afoul of the text, design and purpose of the Durbin Amendment.”

U.S. PIRG will continue to support legal and Congressional solutions to the broken swipe fee market. Otherwise, all consumers, including cash customers and the unbanked, will continue to pay more at the store and at the pump due to unfair bank practices. As U.S. Senator Richard Durbin (IL) pointed out in his friend of the court, or amicus, brief to Judge Leon:

“[T]he interchange fee system was designed and operated by payment card networks and their issuing banks to avoid transparency and competition and to generate high fees that exceeded what could be sustained in a normal competitive market environment The enactment of the Durbin Amendment reflected a bipartisan recognition in Congress that reasonable debit interchange reform was needed to bring transparency, competition and choice to a system that lacked it.”

Credit card swipe fees are the subject of a related preliminary private antitrust settlement between merchants and the banks and card networks. Many merchant associations, as well as U.S. PIRG and Consumer Reports (we both accept credit cards, so we are merchants, too) have objected to that settlement, which is before federal judge John Gleeson in New York. In U.S. PIRG’s objection and request to speak at the pending fairness hearing, we note that the purported benefits of the settlement to merchants and consumers are false. I discuss further the severe deficiencies in this settlement, which would perpetuate Visa and Mastercard’s ability to rig card markets, in a previous blog entry.


Ed Mierzwinski

Senior Director, Federal Consumer Program, PIRG

Ed oversees U.S. PIRG’s federal consumer program, helping to lead national efforts to improve consumer credit reporting laws, identity theft protections, product safety regulations and more. Ed is co-founder and continuing leader of the coalition, Americans For Financial Reform, which fought for the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, including as its centerpiece the Consumer Financial Protection Bureau. He was awarded the Consumer Federation of America's Esther Peterson Consumer Service Award in 2006, Privacy International's Brandeis Award in 2003, and numerous annual "Top Lobbyist" awards from The Hill and other outlets. Ed lives in Virginia, and on weekends he enjoys biking with friends on the many local bicycle trails.

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