A landmark ruling by the EU’s General Court, issued in May this year, gives the latest thinking on scheme-wide interchange rates in payment card schemes.
How interchange works
Interchange is the fee payable, in the context of credit card or debit card transactions, by the retailer’s bank, known as the “acquiring bank”, to the cardholder’s bank, known as the “card issuer”. The acquiring bank’s costs in paying the interchange fee are typically passed on to its client, the retailer, by way of a “merchant service charge”.
The major payment card schemes set a “default” interchange fee centrally (i.e. to take effect if any pair of banks in the scheme fail to reach bilateral agreement on the interchange fee to be charged by one to the other) and as a matter of practice this rate is typically adopted by scheme participating banks.
The competition authorities’ concerns on interchange
Competition authorities in a number of jurisdictions have been concerned that, where a payment card scheme sets the default interchange fee centrally (even though only as a fall-back in case fees are not agreed bilaterally) this amounts to an arrangement between competitors to fix part of a price – i.e. it is an agreement among the banks, in their capacity as card issuers, and the scheme to agree among themselves a common fee (the default interchange rate) which is charged to acquiring banks and which in turn sets a “floor” to the merchant service charge which is charged to retailers. Competition authorities are concerned that retailers are unable to negotiate the level of the merchant service charge as a result of this arrangement.
In terms of economic effects, competition authorities have been concerned that, if the competing banks adopt a common default interchange rate, in place of price competition in interchange rates, that removes the incentive to improve efficiency in payment card services – resulting in higher interchange fees than would otherwise be the case.
Justifications for default interchange fees
Payment card schemes have tended to argue to the competition authorities that default multilateral interchange fees are essential to the effective functioning of a card scheme and, indeed, that the idea of “competing” interchange fees, in bilateral arrangements separately negotiated by every possible pair of banks dealing with each other throughout the scheme, would be chaotic and impractical. In essence, they contend that, since default multilateral interchange fees are essential to the operation of a large scale payment card scheme, and since payment card schemes contribute to consumer welfare, multilateral interchange fees are justifiable and, even if they were to be held technically restrictive of competition, they should at least be exempt from any prohibitions.
The EU General Court judgment in the MasterCard case, May 2012
At the end of May this year, the EU General Court issued its judgment on the MasterCard scheme’s cross-border multilateral interchange fee arrangements within Europe – and, in a judgment with significant implications for payment card schemes, the EU General Court upheld the European Commission’s December 2007 decision prohibiting MasterCard’s crossborder default multilateral interchange fee altogether.15
The most important practical points arising from the EU General Court’s judgment were that:
The default multilateral interchange fee was not considered essential to the operation of the payment card scheme (even though it might well bring advantages to the scheme).
- The EU General Court was persuaded by the fact that payment cards in any case generate significant financial revenues for card issuing banks, regardless of the interchange revenue – in the case of credit cards, by way of interest charged to cardholders; and in the case of debit cards by enabling them to reduce the number of cash and cheque transactions (which are costly to banks).
- The EU General Court concluded that this makes it unlikely that, in the absence of the default multilateral interchange fee, an appreciable proportion of banks would abandon the scheme.
- In this context, the EU General Court also noted that the European Commission had evidence that the reduction in interchange fees imposed by Australia’s central bank had had no impact on the MasterCard scheme in Australia.
- The fact that MasterCard had been incorporated as a single entity following its IPO did not prevent its scheme arrangements being regarded as a multilateral arrangement between the member banks (or, in EU legal 15 terminology, a decision by an “association of undertakings”). In the EU General Court’s view, despite the IPO the payment card scheme continued to be “an institutionalised form of coordination of the conduct of the banks”.
Although the EU General Court upheld the decision to prohibit default multilateral interchange fees altogether, there are grounds to believe that they can benefit from exemption from the prohibition if the fees are reduced to a level that is no higher than “indispensable” to generate the benefits flowing from them:
- In December 2010, the European Commission agreed commitments with Visa according to which Visa would set default interchange fees for immediate debit cards at 0.2 per cent. The Commission’s investigation of Visa’s credit card interchange fees continues.
- In the case of MasterCard, 18 months after the European Commission’s decision prohibiting the multilateral interchange fee, the Commission announced that MasterCard had provisionally reduced the level of its multilateral interchange fee pending the outcome of its appeal.
What is likely to happen next?
MasterCard may well appeal against the EU General Court’s judgment to the EU Court of Justice, meaning there is likely to be a further round of submissions and hearings before the final judgment in this case.
In the meantime, as mentioned above, the Commission continues with its investigation of Visa’s interchange fees and questions of exemption may well be left open even by the EU Court of Justice’s judgment. It appears that the saga of the competition analysis of interchange fees is unlikely to end in the near future.