Neoliberalism’s Press Gangs: How Markets Raise Costs

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By Clive, an investment technology professional and Japanophile

One of the defining characteristics of neoliberal ideology is that more, or better, markets are always and everywhere the solution. No matter what the issues are, markets will fix them.

Perhaps the most striking thing about the ideology is, even when it demonstrably fails – and the markets become the problem – our elites’ response is to double-down and to add new, or different, market layers. The Affordable Care Act (even more colloquially known to its friends as “Obamacare”) is one such example. Lambert has covered this at length in terms of how overlaying an additional market ( onto existing, dysfunctional ones (healthcare insurance, Big Pharma, Health Maintenance Organizations (HMOs) and so on) doesn’t solve anything; it merely compounds the mess.

Rarely, though, do we get any elite acknowledgement – even from those who only carry water for them such as Paul Krugman – that markets can be problems in and of themselves.

So you can imagine my surprise when I was reading (not through choice, I am paid to do this – another example of markets imposing costs) the snappily titled Proposal for a Regulation of the European Parliament and of the Council on Interchange Fees for Card-Based Payment Transactions and came across the following hidden gem of candour (emphasis mine):

(para 10) … Competition between card schemes to convince payment service providers to issue their cards leads to higher rather than lower interchange fees on the market, in contrast with the usual price disciplining effect of competition in a market economy.

For those unfamiliar with finance industry jargon, “card schemes” are the organisation which provide different types of payment cards to the card issuers like the banks. VISA, MasterCard and American Express are perhaps the best known card schemes, but there are others. “Interchange fees” are the costs which the “card schemes” charge “merchants” (stores, supermarkets – places where you spend your money) for the privilege of using your credit or debit card to buy stuff. You end up paying for these “interchange fees” because the card schemes charge the merchants and the merchants pass the costs on to you.

But wait a minute, did that just say “competition… leads to higher rather than lower interchange fees (costs)”? How can that be? Whatever happened to the Efficient Market Hypothesis? Read on. Actually, don’t you’ll die of boredom if you try reading the whole draft EU Regulation, I’ll spare you the pain, the money quote is in the next paragraph (emphasis mine):

(para 11) … The currently existing wide variety of interchange fees and their level prevent the emergence of ‘new’ pan (European) Union players on the basis of business models with lower or no interchange fees, to the detriment of potential economies of scale and scope and their resulting efficiencies. This has a negative impact on retailers and consumers and prevents innovation. As Pan-Union players would have to offer issuing banks as a minimum the highest level of interchange fee prevailing in the market they want to enter it also results in persisting market fragmentation. Existing domestic schemes with lower or no interchange fees may also be forced to exit the market because of the pressure from banks to obtain higher interchange fees revenues. As a result, consumers and merchants face restricted choice, higher prices and lower quality of payment services.

Clive again. Ah-ha! So that’s the reason. The banks issue the cards. The card schemes levy interchange fees for using the cards. The card schemes cut the banks in on the rent-seeking in a revenue-sharing (I’d call it extortion-sharing) grift. The card schemes compete with each other to get you to use their cards but the only competition is which card scheme can gouge out the highest interchange fees to pay off the banks with. The banks do not want an innovative, low cost card scheme to be able to enter the market thereby cutting off their nice little earner. They want the highest cost schemes possible.

But that’s only going to be a problem in Europe, then? Think again. The EU is at least trying to discipline the free market and curb the most brazen of the excesses. The situation in the U.S is even worse. For instance, brand-slap cards (where, for example, a retail outlet does a tie-in with a card issuer, usually one of the big banks and typically provides discounts or other incentives for the cardholder when they use their card) have been virtually killed off in the EU by previous EU regulations banning practices which helped to hide the true costs of these cards. Amazon UK closed its “Prime” credit card but Amazon in the U.S. continues to offer a brand-slap card product in a joint venture with Chase.

Let’s take a look at this. At first glance, it seems generous enough, especially on Amazon purchases. But is it generous or not, compared to the profit Chase will make on the card? You simply cannot tell. And get a load of the totally outrageous “gotcha’s” in the small print:

Please note: We make every effort to include all relevant merchant codes in our rewards categories. However, even though a merchant or some of the items that it sells may appear to fit within a rewards category, the merchant may not have a merchant code in that category. When this occurs, purchases with that merchant won’t qualify for rewards offers on purchases in that category. Purchases submitted by you, an authorized user, or the merchant through third-party payment accounts, mobile or wireless card readers, online or mobile digital wallets, or similar technology will not qualify in a rewards category if the technology is not set up to process the purchase in that rewards category.

Excuse my language, but WTF? Amazon and Chase don’t even guarantee that you’ll get your incentives. By the way, this sort of differential pricing depending on the merchant and the EPoS (Electronic Point of Sale) terminal’s level of sophistication is already banned in the UK and most of the EU through existing financial regulation. It’s about time the U.S. regulators followed their lead.

And the EU did decide on a lowering of the EU cross-border interchange fee cap:

(Article 3 / Article 4) … transaction interchange fee of more than 0.2 % of the value of the transaction for any debit card transaction… credit card transaction a per transaction interchange fee of more than 0.3 % of the value of the transaction.

In the U.S. Dodd-Frank only imposed a 0.5% cap on debit card transactions. Yes, dear U.S. reader, you’re paying more than double what the EU thinks is the correct level of interchange fee when you use your debit card – and the Dodd-Frank cap only applies to cards issued by the largest, Too Big to Fail, banks. And there’s no regulation at all for credit card transactions’ interchange fees.

Note that this could also explain the phenomena which, at first glance, appears paradoxical of the banks welcoming ApplePay into the payments industry. It is paradoxical because ApplePay would seem to be a natural competitor to the existing card schemes – once, that is, it can free itself from the dependency on the customer having an existing card scheme product as their payment instrument. But of course, nothing would delight the banks more than to see ApplePay and the existing card schemes go into a Godzilla-vs.-Mothra battle over who can bribe the banks with the most money from interchange fees.

The EU did consider banning interchange fees completely. And for very good reasons, here, again, is a rare admission that sometimes no amount of regulatory intervention can fix a broken market:

(para 18a) …a prohibition of interchange fees for debit card transactions would be beneficial for card acceptance, card usage, development of the single market (the EU) and generate more benefits to merchants and consumers than a cap set at any higher level. Moreover it would avoid negative effects on national systems with very low or zero interchange fees for debit transaction by a higher cap due to cross border expansion or new market entrants increasing fee levels to the level of the cap. A ban on interchange fees for debit card transactions also addresses the threat of exporting the interchange fee model to new, innovative payment services such as mobile and online systems.

Clive here. The wording is a little dense, but the EU has stumbled on the fact that if you impose a cap on fees, the cap becomes the market price. All market participants simply charge the “capped” price, even if their true costs are way lower and they could easily afford to cut their prices and still make a healthy profit. There’s something even worse, but a bit subtler, hidden in this paragraph too. Once a regulator imposes a price cap for something, they are, de-facto, accepting that it is right to even charge for what is being sold. Just as so-called environmental levies enshrine the right of polluters to pollute – they just have to pay to clean up their messes – interchange fee caps preserve the right for card schemes to charge for something that might not actually be worth anything at all. We’ll return to this problem, and how the EU proposes you solve it, in a moment.

But what about the nuance that I skipped over just now, of how – even though cross border interchange fees are to capped (thus, it is hoped by the EU, facilitating new pan-EU competitors which might want to set up shop and offer a low interchange fee across all Union member states) – card holders and merchants can ensure they are paying the lowest interchange fees possible? Won’t all market participants simply charge the regulated fees?

I’ll give you three guesses what the EU’s idea is of how to fix this. If you’re saying to yourselves “Clive, it wouldn’t by any chance be more markets, would it?”, you’d be right. Let’s force ourselves to see it in black-and-white:

(para 30) Payees and payers should have the means to identify the different categories of cards. Therefore, the various brands and categories should be identifiable electronically and for newly issued card based payment instruments also visibly on the device. Secondly, also the payer should be informed about the acceptance of his payment instrument(s) at a given point of sale. It is necessary that any limitation on the use of a given brand be announced by the payee to the payer at the same time and under the same conditions as the information that a given brand is accepted.

(para 30a) In order to ensure that competition between brands is effective, it is important that the choice of payment application be made by users, not imposed by the upstream market, comprising payment card systems, payment service providers or processors. Such an arrangement should not prevent payers and payees from setting a default choice of application, where technically feasible, provided that that choice can be changed for each transaction.

Clive’s take: So, in the future, in addition all of the other taxes on our time which neoliberalism imposes, we’ll have another way to add to our time-stress.

When we want to pay with a card (or a new “payment instrument” such as our phone), we’ll enter a Randian nirvana where the EPoS terminal where we’re buying whatever it is we’re trying to buy starts a game of “let’s play markets” with us, proffering the choice – neoliberal-leaning thinkers do seem to love that word – of payment application starting with what the merchant is incentivised to select.

Then other “brands and categories” – are you losing the will to live yet? – will be suggested, while you clutch your groceries, or hope the kids aren’t trashing the car while you pay for gas or (and who hasn’t been in this position) keep their fingers crossed they’ve got enough available funds and their card won’t be declined as it’s maxed out.

Actually, the fun starts before you’ve even entered the store.

(Article 10 para 3) Merchants deciding not to accept all cards or other payment instruments of a payment card scheme shall inform consumers in a clear and unequivocal manner at the same time as they inform the consumer on the acceptance of other cards and payment instruments of the scheme. That information shall be displayed prominently at the entrance of the shop and at the till. In the case of distance sales, this information shall be displayed on the website or other applicable electronic or mobile medium. The information shall be provided to the payer in good time before he enters into a purchase agreement with the payee.

That’s alright then. You’ve just driven to (if you live in a place like where I used to live, out in the sticks) the only supermarket in town, no food in the refrigerator, tired after a day’s work and availed yourself of detailed information on the storefront about what payment instruments they accept and, presumably, only enter the merchant’s premises if you’re happy with the payment options available.

You, the consumer, will be supposed to decide which is the best application where your co-badged payment instrument supports more than one scheme. In order to decide which is the “best”, you’ll need to memorise which application has the lowest fees, the most cardholder rewards or whatever pricing signal has been wafted in your direction. Oh, and you can also try to figure out if the merchant, or you, are using “mobile or wireless card readers, online or mobile digital wallets, or similar technology” that “will not qualify in a rewards category” like we’ve seen in the Chase/Amazon card’s Terms and Conditions small print. Good luck with all that.

Then, you can be a nice, well brought-up participant demonstrating how you hold up your end of the Theory of Rational Expectations bargain, ever-eager to adjust your response(s) accordingly.

Until the early 19th century, conditions for ships’ companies were so unpleasant that few people in their right minds willingly volunteered to participate in the market for crewmen. Vessels could not get enough people to meet their complements. No-one wanted the jobs because there were marginally better, less-worse might be a more accurate description, ways to spend your time. The compensation for sailors could have been raised but that would have made operating the ships “uneconomic”. This problem soon led to the introduction of the “press gang” – a group of thugs who dragooned (“impressed”) the unfortunate and the unwary – and they were disproportionately drawn from the poor or destitute sections of society – to serve on the ships.

The next occasion you find yourself forced to spend your time working your way through competing offers in a market for things you can’t easily do without in order to ensure that “benefits” of “free” “markets” can be realised, you might ask are the press gangs really a thing of the past. It is even more ironic if those agencies which are supposed to be looking after our interests end up turning themselves into neoliberalism’s press gangs, forcing us to participate in capitalism when even by their own admission it produces worse outcomes for us than public ownership would.

And if only it was just finance. It is due to this kind of cognitive capture – this idealism – that we also can’t have nice things like single-payer healthcare.

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  1. Steve H.

    “I am altering the deal. Pray I don’t alter it any further.”

    Beyond the tax on time of finding the optimal deal at that particular moment, the moment may only be of the moment. Of particular note in the ACA is the ability of the provider to drop coverage, at any time, for medicines that the particular plan had been studied to provide. The bait, the switch, and back on the hamster wheel.

    It would tend to lead to a tactic of taking the option with the shortest amount of fine print. But as Godel pointed out about the Constitution, it doesn’t matter how short the algo is, if it contains the ability to switch the priors, it cannot be said to be consistent.

    ‘Ah, well, this set of shackles doesn’t chafe so much…’

    1. Clive

      All too true. The financial services industry did not invent bait and switch. But they’ve certainly become Sith Lords in that particular dark art. “These aren’t the Amazon Reward Points you’re looking for…”

  2. doug

    Excellent! Thanks Clive. To ‘consumer-driven health care’, we can now add ‘consumer driven card schemes’:-)

  3. Thure

    Good writeup!

    There is a lot of nonsense about frictionless markets that supposedly feature zero information costs, zero transaction costs, zero regulatory costs, etc. As if markets were some sort of natural phenomenon like gravity.

    Nothing could be further from the truth.

  4. templar555510

    Interesting piece . Here in the UK the German discounters Aldi and Lidl only accept payment by cash or debit card . I wonder why ?

    1. Clive

      Well the simple (actually, simplistic) answer is that the UK discount supermarkets run on such wafer-thin profit margins that even the fairly minor differential between credit and debit account fees (0.3% against 0.2%) is enough to make them wary of accepting credit cards.

      What is actually a potentially a bigger cost, though, is that credit card transactions fall under additional consumer protection (Section 75 of the Consumer Credit Act) which means that the merchant always has to accept a chargeback and refund the customer. Debit cards do not:

      Remember that any (debit card) protection offered is not a legal obligation (like Section 75 for credit cards) but an in-house rule: this means that the exact rules for chargeback schemes vary by (debit) card provider, so you should make sure you are aware of your debit card’s chargeback rules.

      But with credit cards, the merchant then has the obligation on them to show that the chargeback is eligible for a chargeback-reversal (forcing the card holder has to pay up). The costs of the chargebacks — and the costs of investigating and trying to prove there are sufficient grounds for a chargeback-reversal are not trivial when one considers the sheer volume of supermarket transactions.

      This information applies to the UK jurisdiction only. But similar can also apply elsewhere (I must confess I’m not quite so clued-up on U.S. statues and I suspect they also vary by state). So if a merchant doesn’t accept credit cards but does accept debit cards, it’s either down to the fees or the unwillingness to be liable for chargebacks, or a combination of both, depending on the merchant, the profit margin and the jurisdiction.

      1. Left in Wisconsin

        UK merchants are only charged 0.3% on credit card transactions? My understanding is that in the US it is 2-4%, typically closer to 4.

        1. Clive

          Yep, you are royally ripped off. It is appalling profiteering / rent extraction, pure and simple.

          This is how come “reward” cards can appear to make such generous offers. They are bribing you with your own money.

    2. justsayknow

      The Aldi near me in the us just recently started accepting all the major credit cards. I expect prices will rise to offset the cost. But I was surprised as it flies in the face of their stated low cost operation.

      1. Clive

        They were probably able to do a huge cross-border (right across the EU) deal for card processing because of their scale. Mega players like supermarkets have pretty good bargaining power. And because they only do groceries — plus a tiny amount of general merchandise and no apparel, they won’t have much risk of being hit with the chargebacks problem. This is a useful bonus to their simple, limited numbers of SKUs, business model.

  5. vlade

    ah, but the solution to that is to have the app that communicates with the terminal and smartly decides which is the cheapest option for you. And promptly charges you the difference between the cheapest and most expensive one, so that’s ok then

  6. Brianm

    This reminds me of a similar story from the UK. In the mid-1980s there was a big change in the selling of retail financial products (life assurance, mutual funds etc). As part of this several new regulatory bodies were created, including one known as LAUTRO (Life Assurance and Unit Trust Regulatory Organisation).

    At the time financial advisors were renumerated by commission. LAUTRO introduced a cap, with formulae based on premium and term. Funnily enough everyone in the market (no exceptions that I saw) started paying the maximum commission. To be fair, I think it was lower than many were paying before the reformation.

    After a couple of years it was ruled that this was anti-competitive and there should be a free market to bring these costs down. And guess what? Yes – commission rates, and hence costs, went up. Typically rates were 120-130% of what was there before. This probably lopped off about 1% or so more of premiums paid compared to before. The ‘cure’ of course was disclosure – make the amount of commission more explicit so people can make their own decision.

    Did it work? Of course not! Eventually (20+ years later) we had regulation that sort of stopped commissions. Deja vu all over again.

  7. PlutoniumKun

    Once again, a quick lunchtime look at NC and I learn a hell of a lot of things I didn’t know 15 minutes ago. Thanks Clive, very interesting stuff.

  8. Eclair

    And, in the US, there are the cards that charge a ‘foreign exchange transaction fee’ when used in non-US countries. And, the cards that don’t. And, the credit cards that don’t work at automated ticket vendors/gas pumps, etc., while traveling abroad because, even if they have an embedded chip, don’t have a PIN.

    Last summer, we were ‘press-ganged for Capitalism’ when arriving on a very late flight at Newark, NJ, we opted for a taxi (NOT Uber, because I read NC) instead of public transportation to get to Hoboken. One must now prepay for the taxi at the airport with a credit card. And … the point-of-sale machine cheerily states that it is imposing a $3 fee for giving you the privilege of using the system. Had I been wearing wooding shoes, I would have beaten the machine to a pulp.

  9. Brooklin Bridge

    Excellent excellent article. I’ve taken to reading some of these articles out loud after dinner with my wife and this will definitely be the next.

  10. fresno dan

    I think a simple example that everyone can understand is cable service or cell phones (I could go on and on – anyone able to shop medical services???)
    These two “services” show that the vast majority of “choice” is a Mcguffin – supposed choice within plans about everything EXCEPT the price of the basic unit of what you are buying – they simply will not tell you in comprehensible terms how much a minute of airtime costs (not to mention purposeful complications like time frames, weekends, other users, number of devices, etc.) so that you cannot compare it to another carrier.

    Despite the incessant bullsh*t, the fact is, we live in the LEAST transparent of times…

  11. shinola

    If a merchant accepts credit cards AND does not offer a discount for paying cash AND my CC issuer has a x% cash “rewards” program, then is it not a rational decision to use the card?

    1. Clive

      Depends on how much the merchant has had to increase their prices to compensate. The problem is one of obfuscation. You can’t have pricing signals if the price of the service you are using is hidden from consumers.

    2. vlade

      it is rational. The problem there is that the CC company might have moved the goalpost, either for the merchant or for the customers.

      If we assume that the merchant just passes the whole cost to the customer (it is not always the case, sometime they just have to grin and bear it), then merchant wins a bit (not all customers will pay with CC), and the CC company wins a bit (it gets its money from those who do pay with CC). Clients lose a bit (if they pay with CC) or a lot (if they pay with cash). And this is the point – you basically have to have the right card to NOT LOSE.

      You’re not taking steps to win, you have to take steps to lose less than you’d otherwise (because you lose one way or another).

      That said, the problem here is non-trivial. If you apply the obvious solution (no interchange fees) the banks will go and try to make it somewhere else (think PPI insurance in the UK, account fees that people loathe etc. etc.). Ultimately, banks need to make money too. I know, heresy, but we’re not talking about 20%+ RoE, but a regulated utility levels of return.

      I understand Clive’s point of wasting time on deciding on payments methods, but if cash is always guaranteed to be the cheapest, then there’s a viable default option – at least for majority purchases where cash can actually be reasonably used.

      Banks then could easily offer say debit cards with zero interchange costs but a monthly account fee – tbh, this would be fairer IMO, as the marginal costs of processing extra client transaction are trivial once the fixed costs of the system are covered. Of course, in the UK account fees are a bugbear which scares people into paying much more via other (often invisible, and often hitting the poorest most) fees.

      1. TheCatSaid

        “Clients lose a bit (if they pay with CC) or a lot (if they pay with cash).” How does a customer lose a lot by paying with cash?

        1. vlade

          Price pre-card: 100. Card provider charges 1 for transaction. 50% of merchant’s customers uses cards, so merchant ups the price to 100.5 to cover the extra cost.
          Card provider gives 0.25 cashback to clients to induce them to use the card.

          So, in the end, merchant is flat (assuming 50% or less of his clients uses the card), card provider makes 1 per transaction, card-customer had a price increase of 0.25, cash-customer had a price of increase of 0.5

  12. Robert-Reinder Nederhoed

    Excellent write-up. Considering all these cloudy edges of cards and their conditions, does that make a payment protocol such as Bitcoin a welcome, transparent candidate? Given its fixed fee globally. No charge backs.

  13. afisher

    Everytime I read an article about how great it will be when the cashless society becomes a reality, it is another financial overload taking their pound of flesh. The consumer will never know, sigh.

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