The Impact of an Interchange Fee Cap on Credit Card Transactions
23 Pages Posted: 17 May 2022
Date Written: May 3, 2022
Credit unions and banks charge retailers that accept their credit cards a fee, referred to as interchange, for processing each transaction. The fee is a proportion of the transaction and generally depends on the volume of business, the risk of fraud in each transaction, the goods or services being purchased, and the profit margin for the retailer. In the U.S. these fees generally range from 1.5% to 3.5% of the transaction cost.
Consumers that shop with credit cards that provide rewards see a sizable fraction of any interchange fee they implicitly incur returned to them in benefits. While credit card interest and fees may increase costs to consumers somewhat, the rewards are significant: in 2020, they amounted to $50 billion.
Although more than 80% of consumers have a rewards card, not everyone has one. Consumers with a low credit score may not qualify for one, and in many instances the cards they do use accrue no points or cash refunds. Some politicians and activists have suggested that this reality in the status quo of the credit card market foments income inequality, and that reducing the interchange fee--by fiat if need be--would result in credit cards exerting less upward pressure on prices. Lower interchange fees would in turn lead to less generous credit card rewards, which would help low-income households--those with or without credit cards--and reduce inequality.
However, the downside of caps on interchange fees is that households with low credit scores may find it almost impossible to obtain a credit card. Invariably, reduced interchange fees would result in issuers reassessing to whom they would give a credit card, and the low-credit-score households--which overlap with but are distinct from low-income households--would find it more difficult to obtain credit.
What’s more, the data suggest that there’s no reason to think that the savings from a lower interchange fee would be passed to consumers. Our analysis found that consumers stand to lose as much as $17 billion from credit regulation--roughly one-third of what they received in 2021--but that the consumer savings via lower prices engendered by the interchange fee cap would be less than $30 million.
Keywords: Credit, interchange fees, credit card rewards
JEL Classification: G23
Suggested Citation: Suggested Citation