Payments Innovation and Interchange Fees Regulation: How Inverting the Merchant-Pays Business Model Would Affect the Extent and Direction of Innovation

Abstract:     
This paper examines the possible impact on innovation involving payment cards as a result of price caps that lead to the drastic reduction in interchange fees. Such reductions invert the traditional business model for the payments card industry from a merchant-pays model to a consumer-pays model. The paper argues that this inversion is likely to reduce the overall level of innovation in the industry, divert innovation away from the role of payments in transactions and towards improvements for which consumers can be charged non-transaction related fees, and discourage the entry of new payment systems.

Number of Pages in PDF File: 34

Keywords: interchange fees, innovation, debit cards, credit cards, payment cards, regulation, two-sided markets

JEL Classification: G21, L40, L50

working papers series