The Seen and the Unseen

In passing the Dodd-Frank Wall Street Reform Act last year, the Congress implemented a complicated and controversial “swipe fee” rate cap.  And if ever there was an example of seen and unseen consequences, this is it.  Every time you use your debit card, the retailer pays around a 44 cent fee to the bank which issued your card.  The Dodd-Frank bill caps that rate at 12 cents, a 233% decrease.

Proponents of capping swipe fees hailed this action as a vital piece of consumer protection against big banks which charge exorbitant rates, stifling retailers which must pass on those costs to consumers.  Thus auspiciously, the beneficiary of this change should be consumers.  Yet it is hard to see how such an intervention will end up benefiting consumers.  In their zeal to fight the perceived injustice they can see, lawmakers efforts will have vast unintended consequences that ripple across the entire economy with unpredictable ramifications.

Government officials are expert at finding what they perceive to be injustices in the world.  On its face, a 44 cent fee for every time you swipe your debit card seems exorbitant.  Of course, it may be that retailers are willing to pay these fees for the benefit of immediate cash.  Either way, they are not being compelled to offer consumers the option of using debit cards, but its clear that any store which didn’t would lose a substantial portion of its business.  To date, the market has valued this service at 44 cents per transaction.

The solution for retailers is to have well-meaning government officials put a rate cap on this pesky input cost.  Big name retailers like Walmart lobbied heavily for the passage of this measure, largely by convincing politicians that exorbitant “swipe fees” drive up prices to consumers.  But retailers benefit from the increased use of debit cards, because they are able to gain immediate access to the funds without the uncertainty of personal checks — they just want to play less for it.

Now we come to the unseen portion of the scenario.  The immediate impact of the increased rate cap is a sharp decrease in the profit of small debit card providers.  Large banks can recoup those losses in other areas, but small banks will be forced to close.  The law specifically does not apply to small banks, or those with less than $10 billion in assets.  But it is painfully obvious that any small bank attempting to charge the old market “swipe fee” will find itself without a market because retailers will not accept those cards, turning to their larger competitors who they only have to pay 12 cents per swipe.  This has an immediate negative effect on small banks, placing them at a disadvantage to their larger competitors who can better withstand the sharp decline in revenue.

And where does the $8-12 billion go now that Visa and MasterCard aren’t receiving it in income?  Lawmakers hope that it will result in lower prices to consumers, but input costs are not the sole driver of prices.  How many consumers will hold Walmart accountable to lower every price 32 cents to reflect the new rate cap?  My guess is almost none of Walmart’s undiscerning shoppers will see a dime of savings.  The only impact of this bill is that $8-12 billion in profit is transferred by government fiat from big debit card companies like Visa to big retailers like Walmart.

The worst part is that this imposed transfer of wealth will have real negative effects on consumers.  We take for granted that our debit card transactions are secure and that fraudulent purchases will be recouped by the bank.  But the government just slashed the price of those services by 233%.  Visa is powerless to fight the government intervention, but it is not going to sit idly by and explain to its shareholders that it lost $8-12 million in revenue.  Instead, they will begin to raise other bank fees, like those charged for using ATM’s, for having checking accounts, for going into over-draft, all things that happen to many Americans every day.  Worst of all, they will also have to slash consumer protection, leaving consumers more vulnerable to identity theft every time they swipe their cards.

In every scenario there are costs that are seen, and costs that are unseen.  In this case, lawmakers have reduced one cost charged on Big Retail.  Walmart’s shareholders thank them for their largesse as Visa and its competitors scramble to reorganize and cut costs to reflect the new government imposed price.  In the end, the unseen consequence is that every American is left holding the bill for this exchange.  Walmart now pays less every time you swipe, but you will pay more in other bank fees and the knowledge that at any time your entire bank account could be wiped out without any means of recovery.  That is the unseen cost of government intervention, and lawmakers should act swiftly to remove this heinous rule before it takes effect in July and plays havoc across the market.