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Visa and MasterCard's Loss Won't Be Your Gain

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When new laws decrease fees, you'd think most people would end up better off. Yet the much-ballyhooed new regulation on interchange fees may end up doing ordinary consumers more harm than good.

Earlier this month, the Senate added an amendment to the financial reform bill to limit the amount that credit card processors Visa (NYSE: V  ) and MasterCard (NYSE: MA  ) charge on debit card transactions. Some believe that similar limits on credit card transactions may be next. Although this has a fairly obvious impact on the companies that collect those fees, the real question is this: What will happen to the fee savings?

Collecting spare (inter)change
You'll never see an interchange fee when you're buying something, but it's a large part of what makes credit and debit cards profitable for the companies that issue and manage them. Every time you buy something with a card, the retailer you buy it from doesn't get the full amount of the charge. Visa and MasterCard collect an interchange fee of up to 2.95% plus a small fixed amount per transaction.

As fellow Fool Morgan Housel examined last week, Visa and MasterCard don't get a direct benefit from interchange fees. Instead, they're passed on to the banks that issue credit cards. So with Bank of America (NYSE: BAC  ) , Wells Fargo (NYSE: WFC  ) , and JPMorgan Chase (NYSE: JPM  ) being the market leaders in the debit card industry, they're the ones who will feel the brunt of new regulation. The reason Visa and MasterCard have seen their shares plummet has to do with the secondary impacts, such as the fear that lower interchange fees will reduce the incentives for banks to issue new cards, which in turn would impact the card networks' direct revenue sources.

But it's not the first time that interchange fees have been under attack. Big merchants Wal-Mart (NYSE: WMT  ) and Target (NYSE: TGT  ) have long fought the fees, arguing that they and other retailers should be allowed to bargain collectively to reduce the fees.

What it means for you
Lately, it seems like what's bad news for the banks should be good news for you. Yet it's far from clear whether ordinary consumers will benefit at all from the legislation.

For the most part, customers have never seen the direct impact of interchange fees. The agreements that merchants enter with Visa and MasterCard don't allow them to tack on interchange fees as a surcharge to customers, and although offering a discount for cash is permitted, cash discounts haven't really caught on outside of gas stations.

So just as card users never really suffered from interchange fees, they may never see any direct benefit from new limits on them. Some argue that by reducing their interchange fee expenses, retailers will be able to pass on savings through lower prices. But given how the charges were hidden from consumers in the first place, struggling businesses are more likely to keep the savings to boost profits or cut losses rather than passing them on.

In fact, if the changes are extended to credit card interchange fees, then some consumers could actually end up being worse off. Interchange fees help provide funding for the credit card rewards that so many people get from their cards. Yet as we've already seen during the financial crisis, falling bank profits have started eating away at issuers' willingness to continue rewards programs. With another source of revenue under attack, it's even more likely that customers will face annual fees and other direct costs to offset lost interchange fee income.

Get while the getting's good
For now, though, there are still plenty of ways that you can make the most of your credit and debit card spending. Although few if any rewards outweigh the cost of carrying a balance on a credit card, those who pay their bills in full every month can still end up ahead. Unfortunately, finding the best deals is probably going to start getting a lot harder.

Too big to fail is here to stay. Find out from Ilan Moscovitz how 61 senators completely dodged the biggest problem in banking.

Fool contributor Dan Caplinger pays cash at the stores he really likes. He doesn't own shares of the companies mentioned in this article. Wal-Mart is a Motley Fool Inside Value choice. Try any of our Foolish newsletters today, free for 30 days. With the Fool's disclosure policy, everybody wins.


Read/Post Comments (4) | Recommend This Article (17)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On May 24, 2010, at 5:38 PM, nin4086 wrote:

    >>>

    So just as card users never really suffered from interchange fees, they may never see any direct benefit from new limits on them. Some argue that by reducing their interchange fee expenses, retailers will be able to pass on savings through lower prices. But given how the charges were hidden from consumers in the first place, struggling businesses are more likely to keep the savings to boost profits or cut losses rather than passing them on.

    In fact, if the changes are extended to credit card interchange fees, then some consumers could actually end up being worse off. Interchange fees help provide funding for the credit card rewards that so many people get from their cards

    >>>

    The above uses faulty reasoning. There is an assumption that merchants will not pass on savings to consumers. This assumption is baseless because most merchants do not have a monopoly business. They compete with each other and price is an important factor. I would rather pay less upfront than partake in deceptive credit card rewards programs.

    If you are going to write an article analyzing an issue why not explain both sides? Why render a personal opinion as if it were fact? Do you take us readers for a fool (with a small f)?

  • Report this Comment On May 24, 2010, at 9:42 PM, MrZ2357 wrote:

    nin4086

    You are sadly naive and/or misinformed.

    Australia and Europe have enacted similar restrictions and the result has been exactly as the fool has described, exactly.

    Retailers have pocketed the fee difference, customers did not get a reduction and customers loose out on promotions.

    Exactly as the fool described.

    Why do you think it will be any different in the US?

  • Report this Comment On May 25, 2010, at 12:30 PM, NYCBanker wrote:

    Free competition and the price mechanism always prevail. It doesn't happen overnight, and there is an extended adjustment period, but it will happen. You cannot fight the invisible hand.

    With that said, prices will come down. Walmart will lower prices on gum by a penny and then others will follow.

    Mzallocc you make a statement and present it like fact, but the real fact is card charge volumes are up in Europe despite interchange fee restrictions.

  • Report this Comment On October 09, 2010, at 4:45 PM, janoleolsen wrote:

    Don't know about Australia, but Europe is underdeveloped. Plastic is replacing cash, but still 2/3 of all German card spending is at ATMs rather than in stores - so a long way to go. Thus card use will increase for many years to come. I've established several highly profitable credit card banks in Europe to take advantage of almost zero competition among banks - you don't get rewards of any significance in Europe - and on top you have to pay fees for your card :) 500 million people and no competition, a fantastic market for new banks as exisiting banks are so conservative.

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Dan Caplinger
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Dan Caplinger has been a contract writer for the Motley Fool since 2006. As the Fool's Director of Investment Planning, Dan oversees much of the personal-finance and investment-planning content published daily on Fool.com. With a background as an estate-planning attorney and independent financial consultant, Dan's articles are based on more than 20 years of experience from all angles of the financial world.

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