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ANTITRUST AND INTERCHANGE

Lacey Plache

LECG

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Three Main Points

1. Default interchange fees are necessary for the functioning of the Visa and MasterCard systems.

2. The level of Visa’s interchange fees can be explained by competitive forces.

3. Contrary to antitrust concerns regarding price-fixing, the primary inefficiency claimed here is not that output has been restricted but rather that output is too high.

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In two-sided markets, competitive pricing involves balancing demand on each side of the market.

Closed-loop payment card systems balance demand by setting cardholder and merchant prices.

Open-loop payment card systems must use interchange fees to balance demand.

1. Default interchange fees are necessary for the functioning of the Visa and MasterCard systems.

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“Honor-all-cards” is required for all payment card systems.

Given “honor-all-cards,” a multiple issuer system must set default interchange fees.

Otherwise issuers will have the incentive to raise their individual interchange fees to acquirers/merchants, imposing an externality on the system.

1. Default interchange fees are necessary for the functioning of the Visa and MasterCard systems.

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2. The level of Visa’s interchange fees can be explained by competitive forces.

Interchange fees are used by open-loop payment card systems to competitively balance the two sides of the market.

Balancing led to lower interchange fees in the past and, since 1998, has led to higher interchange fees.

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Visa Interchange Fees(1971-2005)

0.0%

0.2%

0.4%

0.6%

0.8%

1.0%

1.2%

1.4%

1.6%

1.8%

2.0%

2.2%

2.4%19

71

1973

1975

1977

1979

1981

1983

1985

1987

1989

1991

1993

1995

1997

1999

2001

2003

2005

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Past declines in Visa interchange fees cannot be explained by decreasing Visa market power.

Recent increases in Visa interchange fees cannot be explained by increasing Visa market power.

2. The level of Visa’s interchange fees can be explained by competitive forces.

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Credit and Charge Card Shares(1974-2005)

0%

5%

10%

15%

20%

25%

30%

35%

40%

45%

50%19

74

1976

1978

1980

1982

1984

1986

1988

1990

1992

1994

1996

1998

2000

2002

2004

2006

Visa

MasterCard

American Express

Discover

Diners Club

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2. The level of Visa’s interchange fees can be explained by competitive forces.

Past declines can be explained by Visa’s efforts to achieve “universal acceptance.”

Recent increases in interchange fees can be explained by increasing competition between Visa and MasterCard for issuers.

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2. The level of Visa’s interchange fees can be explained by competitive forces.

Increasing payment system competition has been caused by increased cardholder loyalty to particular issuers, thereby increasing issuer ability to shift cardholders between payment systems.

Competition for issuers intensified after 1998, as MasterCard and Visa competed for dedicated issuance.

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2. The level of Visa’s interchange fees can be explained by competitive forces.

Cardholders have received greater benefits (higher rewards and lower fees) from increased payment system competition and higher interchange fees.

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This inefficiency is not related to market power.

This inefficiency is not specific to the use of interchange fees, or even to payment card systems.

3. Contrary to antitrust concerns regarding price-fixing, the primary inefficiency claimed here is not that output has been restricted but rather that output is too high.