The Fed’s report went much further than the 50 percent reduction that Wall Street analysts had expected. Shares of Visa and MasterCard, which could come under increasing pressure from banks seeking to make up billions of dollars in lost revenue if the Fed proposal was adopted, plunged more than 12 percent.
“It’s bad for the issuers and the card networks,” said Rod Bourgeois, a payments analyst at Sanford C. Bernstein.
As part of the Dodd-Frank Act’s overhaul of the financial code, Congress directed the central bank, which oversees the regulation of electronic payments, to ensure that the swipe fees charged by the banks and payment card networks like Visa and MasterCard were “reasonable and proportional” to the cost of processing the transaction.
On Thursday, the Fed proposed limiting those so-called interchange fees from 7 cents to 12 cents per transaction, or roughly 0.3 percent of the face value of a purchase. Merchants now pay debit card processing fees averaging about 1.3 percent, according to the Nilson Report, a payment industry newsletter. Smaller retailers are charged more because of lower transaction volume and limited bargaining power.
The Fed proposed that it re-evaluate the fee cap every two years and asked for more time to consider whether it should be increased to reflect the costs of fraud protection.
The new rules will be open for public comment until February. Final rules are to be completed by April and put in place in July.
Both Visa and MasterCard argued that the Fed had not considered all the costs incurred to operate debit card programs.
Visa said it had “concerns that the Federal Reserve’s proposal includes artificial caps on debit interchange that do not realistically reflect the value of card acceptance.”
MasterCard went a step further and openly criticized the proposal, saying it would simply shift costs to consumers from merchants.
“This type of price control is misguided and anticompetitive and in the end is harmful to consumers,” Noah J. Hanft, MasterCard’s general counsel, said in a written statement.
Henry O. Armour, chief executive of the National Association of Convenience Stores, said his members were generally pleased with the proposal.
“The proposed rules that the Federal Reserve issued today are a positive step in addressing the anticompetitive behavior of banks and credit card companies,” he said in a conference call with reporters. But he and other advocates for the merchants argued that even if the Fed’s rules were adopted, interchange fees would still be too high.
He compared debit cards to paper checks. “You look at checks clearing at par, which means there is no interchange,” he said. “We believe the standard for debit should be the same.”
In most American stores today, customers pay the same price for goods, whether they use credit, debit or dollar bills, even though each costs the merchant a different amount.
That will almost certainly change soon, the result of the legislation and recent court settlements that have set out to reduce processing fees and abolish rules by the major card companies that have made it impractical for merchants to give discounts to customers using cheaper forms of payment, like cash.
Already, the balance of power has begun tilting toward merchants and away from the financial industry, with some visible results.
Gate Petroleum, which operates about 100 gas stations in the Southeast, has seized on a separate piece of the Dodd-Frank Act that lets merchants charge different prices to customers using different forms of payment.
This fall, Gate began offering a discount to customers who used cash to buy one of the company’s new prepaid gas cards. Just over two months into the discount program, about 20,000 cards are in use, the company said.
David Dill, the company’s vice president for sales and marketing, said Gate saved about 4 cents a gallon whenever it made a sale that did not touch a Visa or MasterCard payment network. Customers receive a discount of 3 cents a gallon; the other penny goes toward the cost of operating the card program.
“It’s really a loyalty program for the customer,” Mr. Dill said.
For years, some gas stations charged higher prices when customers used credit cards, sometimes simply in defiance of the card processing contracts and other times taking advantage of legal technicalities.
In many states, gas stations could comply with the rules by posting separate prices for cash and credit. That approach was impractical for most other retailers because they stocked different products on their shelves.
Dodd-Frank lifted that barrier by allowing merchants to steer customers toward the payment method that is cheapest for them to process, without having to post separate prices.
Merchants were given even more latitude in October, when the Justice Department settled an antitrust case against Visa and MasterCard. The card companies agreed to let merchants steer customers to the payment network the merchant preferred.
This gave merchants greater leverage to negotiate lower processing fees, by promising more payment volume to one network, like Visa, in exchange for better terms. (American Express was also sued by the government but declined to settle out of court.)
Dodd-Frank also forces Visa, MasterCard and others to compete more aggressively for merchants’ business by requiring that all debit cards run on the networks of at least two different payment companies. So when a customer uses a Visa debit card, for example, the merchant could process the transaction on a network other than VisaNet.
Today, through exclusivity agreements, many debit cards run on the network of only one payment company. The change will take effect in July, after a review by the Fed.
Taken together, these measures significantly strengthen the hand of merchants. Analysts expect merchants to negotiate sharply lower prices with the banks and reclaim a portion of the tens of billions of dollars they spent last year on processing fees for debit and credit cards.
“All of the sudden, the merchants have bargaining power,” Mr. Bourgeois of Sanford C. Bernstein said. “They have an ability to drive prices down because there will be multiple payment brands on every card, and on top of that, the merchants will have the ability to use the lowest-cost route of whatever payment network they choose.”
The banks are setting out to make up for the expected drop in card processing fees. Bankers say they may offset part of the lost revenue by assessing higher monthly fees on deposit accounts — just as Fifth Third, Wells Fargo and others did last year after the Fed placed tougher restrictions on overdraft charges.
Debit cards offering rewards points — which cost merchants more to process so they can cover the cost of the programs — could be another casualty. JPMorgan Chase, for instance, announced that it would no longer sign up customers for such products starting in February.
Some analysts cite that as proof that while merchants may benefit, the savings will probably not trickle down to consumers.
“It’s big industries fighting each other over the bread crumbs, but consumers aren’t coming out ahead,” said Jaret Seiberg, a financial policy analyst for MF Global.
Andrew Martin contributed reporting.
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