Can You Live Without A Credit Card? Ctd

Andrew Sullivan —  Aug 15 2011 @ 8:25am

Some remaining thoughts on last week's popular thread:

My girlfriend physically took my credit card away. We're much better off. Digitally, however, I continue to use the card for everything from Amazon books to server costs to music. The digital economy runs almost entirely on credit. There's almost no concept of cash online. Am I glad I don't have the credit card in my wallet any more? For sure. Can I live without a credit card at all? Nope. At least not online.

Another writes:

I highly recommend taking a look at the publically available fee schedules for Visa (pdf) and MasterCard (pdf). It's not easy to make sense of it, but if you invest the time, you can learn a lot about how the credit card industry works today.  One of the most interesting and least understood points is that Visa passes the cost of rewards programs onto the merchants:  you'll notice that a given merchant doing a given type of business pays extra if a customer uses a rewards card, and how much extra depends on the card.

Note that merchants will always pay more than the number listed in this table, because their bank takes an additional cut.  In many cases their bank will force them to use a third-party payment processing company, who will also take a cut.  Sometimes those processing firms force you to buy the service through a local sales firm, who will also take a cut.  If you do e-commerce, you'll have to file the electronic payment information through yet a another firm, who will take yet another cut.  It adds up.

We all benefit from electronic payment processing: it is a huge step up for everyone from having to have safes and cart cash to the bank and/or deal with the hassle, wasted time, and worry of accepting paper checks.  But there is no reason that electronic payment processing should cost three times more for a one type of card vs. another type of card, and it seems preposterous to me that these credit card companies make 1-4% on almost every consumer transaction in the developed world and yet claim they can't make a profit.

P.S. Your second reader here was wrong on one point: It is not illegal to charge different prices depending on the payment method.  However, the credit card industry writes that requirement into all their merchant contracts.


Your reader wrote, "If everyone used cash, prices for everything would go down." True, but so would sales, income and other tax revenues.  Pretty much everybody who has ever worked for, in, or owned a mostly cash based business, knows that lots of the income is never reported, cash can be stolen, tips unfairly distributed and so on.  The audit trail left by electronic payments has stopped many of these evil practices.  And many if not most honest small business owners are damn glad that their cash registers aren't pots of gold to either their employees or thieves, and the late night bank deposit of cash isn't enough to get killed over. So maybe it's a protection racket, but hey, everyone wins.

One more:

Full disclosure:  I am an attorney who spent much of last decade as outside counsel defending an enormous credit card company in antitrust matters.  I am not going to defend here everything that credit card companies do, and they do not remotely merit it for some of their practices.  I would like, however, to clarify some common misperceptions and push back a little against some of your customers' assertions.

1.  Credit card companies do not necessarily need you to carry a large balance in order for them to make a profit.  They do need you to use your card a lot.  For each transaction a customer makes, that customer's bank receives an "interchange fee" from the seller's bank (ultimately paid by the seller, of course).  For credit card transactions, this amount is currently generally a bit less than 3%, and for debit card transactions, this amount is typically a bit less than 2%.  In other words, if someone makes $5,000 in credit card charges every month, the issuer bank makes approximately $150 a month off of that customer in interchange fees every month, without having to have much credit default risk (given the propensity/ability to pay off).  That is a very attractive type of cardholder for a bank to have, and one of the types that are actively sought.  If you carry a large balance, that cuts into your ability to use the card a lot to generate interchange fees, so there is a trade-off.  The banks do want you to have a large involvement with their product (either by having a large loan from them or by making a lot of purchases or both), but that is of course true of most products from most businesses.

2.   It is true that historically, merchants have not been permitted to charge more for payment card transactions than for cash transactions.  That is not because the practice is illegal, but because Visa and MasterCard have rules that say that if you want to accept the card, you must agree to that policy.   I do not know whether I think that the rule is still necessary.  But to provide some perspective, it was necessary initially for the cards to survive and grow, because credit card companies had to convince customers to use a payment method that was not accepted widely and simultaneously had to persuade merchants to accept a payment methodology when there were not many customers who had the cards.  It was a very delicate and difficult balancing act that took decades to play out.  One of the things Visa realized early on was that if merchants were free to charge higher prices (because they found the cards weird and wanted a premium for dealing with the weirdness), then customers would not adopt this strange new card, and the careful chicken and egg management process would have been nearly impossible to surmount.

3.  The no-price discrimination policy, combined with the interchange fee, leads to the result, on a simplistic level, that a merchant keeps more cash from cash payers than from credit card payors.  But the conclusion that therefore prices are higher for everyone is far, far too simplistic.  Payment cards provide an insanely and ingeniously efficient and safe payment system in comparison to any current alternative.  Using cash, on the other hand, has numerous costs for lots of parties involved.  A merchant has to physically manage the cash.  That includes ensuring that the employees do not pocket any of the cash before accounting for it, ensuring that neither the employees nor robbers take the cash before it can be secured.  That can entail costs such as security guards, safes, armored truck services.  Then they also have to take the time to go to the bank, have the deposit counted, etc.  I haven't done the analysis, but it is not at all clear to me that the costs associated with cash amount to less than the interchange fee cost of the payment card transaction.

And that is just on the merchant's side.  There are similar costs for the consumer as well.  If a consumer pays for everything in cash, the consumer must make multiple trips to the bank, must expend effort to keep the cash safe, etc.  The consumer must decide whether to carry lots of cash at once, and bear the risk of theft, or carry small amounts and bear the burden of going to the bank repeatedly.  And quite obviously, for consumers and merchants who do want to make a transaction on credit, the credit card is invaluable.  Back in the day, many department stores had credit departments that evaluated consumers for transactions, made individual determinations, and then had to deal with collections.  It is much much cheaper for them to pay an interchange fee and outsource the entire credit department, and it is obviously more efficient overall for this credit decision to be made by only one party rather than by each store.

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