Your card payments aren’t free

I’m between rental flats in London. So I decided to rent a cottage in Essex for a few weeks. I found it on Airbnb, and paid the landlord about £1000.

The landlord got most of it and Airbnb got a good margin. But I was fascinated to find that I’d unwittingly paid £2 to my bank on my debit card. It was a hidden fee — and doesn’t show up anywhere on my card statement. But it’s what Airbnb had to pay the bank that issued my card. It’s known as an interchange fee.

What’s an interchange fee?

The interchange fee is a curious phenomenon — an arrangement that renders the magic of free-market competition limp and powerless. It’s a three-way agreement between the issuing bank (e.g. HSBC), the card scheme (e.g. Visa) and the merchant (e.g. Airbnb). It dictates that a percentage of the transaction fee goes to the issuing bank to cover things like their electricity, internet, and the upfront cost of servers and software

In practice, it’s really an agreement between the card scheme and the issuing banks. The monopolistic position of Visa and Mastercard leaves the merchant without any say. They either pay up, or lose the ability to sell to Visa and Mastercard holders. And that’s a lot of people!

Most card holders don’t know about the interchange fee. But merchants are painfully aware of it. Sometimes, they’ll even avoid accepting card schemes that have a higher interchange fee (like American Express).

UK: “card holders aren’t paying their banks enough”

That’s what Visa must have thought when they removed the 50p interchange fee cap in September 2016. Previously, the interchange fee — even on larger amounts like the rent on my Airbnb cottage — was capped at 50p.

In 2016, there were £520bn in debit card payments. Banks earned at least 0.2% on that volume in interchange fees. It’s a small percentage when you’re buying a coffee. But it adds up to a handsome £1.04bn in annual fee revenue to UK banks.

How do the regulators allow this?

There’s no incentive for the banks and card schemes to lower interchange. That’s why we see regulators stepping in. Without them, we could still be paying 3% as was common in the 90s. Many regulators have noticed that banks are getting paid enough already, and have moved to change how interchange fees work in their respective countries.

Spain

The Spanish have capped the interchange fee at 7 cents. Yes, your Spanish bank is getting no more than €0.07 when you buy coffee or book your flights with your debit card. I’m sure that’s plenty to cover the cost of electricity, internet and the upfront cost of servers and software.

The Netherlands

The Dutch, inventors of modern digital banking with ING, have figured out that it doesn’t really take 7 cents to process a transaction. So they’ve capped the interchange fee at €0.02.

The United States

The US has tried hard to create competition and it hasn’t been easy. For example, they require each card to work on two schemes. One is usually Mastercard or Visa, and the other one a small player that no-one has heard of.

They’ve also limited the amount that can be charged as interchange with debit cards.

The EU

The interchange fees used to be the wild west in Europe. But in 2015, the EU introduced Interchange Regulation. This capped the debit card interchange fee to 0.20% and the credit card interchange fee to 0.30%.

Ireland

The Irish didn’t just take the EU caps as a given, and thought about it independently. Their interchange is 0.1% and it’s capped at €0.50.

Is there a solution?

Not yet. In the longer term, there has to be a way to create competition between card schemes and incentivise alternative, more secure payment options to emerge. Until then, we can only hope to follow the example of the Spanish and the Dutch and use the regulators to control interchange fees. You can join the campaign to ask the UK government to crackdown on excessive interchange fees.

Kristo