SEPA Must Face Facts on the Interchange Fee
It has been called ‘the largest payment initiative ever undertaken in Europe and possibly the world’ and was predicted to have an impact as great as the introduction of the euro. Launched with great fanfare in January 2008, the single euro payments area (SEPA) is billed as the way to make more efficient, easy, cheap payments everywhere in Europe through full harmonisation of all payments in euro. But SEPA has a huge hurdle to overcome if it is to fulfil its promise of a ‘domestic’ Europe for payments: the allocation of fees for card payments. Unsolved, this problem could derail the project’s fundamental objectives by making card payments in many European countries more expensive than they are at present. This would be a disaster – not just for SEPA or for the European Commission but for European businesses, for trade, for the whole economy, and for all European citizens.
In the words of European Competition Commissioner, Neelie Kroes, it is a ‘tax on consumption’. It must be dismantled if Europe is to have an equitable, competitive single market for payments.
Payments using the two major card schemes in the EU involve four parties: the consumer, the consumer’s bank (known as the ‘issuing bank’ because it issues the card) the retailer and the retailer’s bank (called ‘acquiring bank’ because it accepts or ‘acquires’ a transaction made using a payment card issued by another bank). The multilateral interchange fee (MIF) is a percentage payment made from the acquiring bank to the issuing bank on each card transaction. This cost to the acquirer is then passed on to the retailer as part of the merchant service charge (MSC) i.e. the retailer pays for the costs of his own bank in processing the transaction plus the MIF. The MIF can be up to 98% of the MSC. The retailer must then pass the cost back to the consumer in the price of goods – so the consumer pays whether or not he has the benefits of using a card.
This fee is charged in 97% of card payments in the EU. But most efficient national debit systems currently do not operate a MIF and it is these that are under threat. Breaking the MIF down further, we can see what it consists of. A small part is the costs of the issuing bank in processing the cardholder transaction. The bulk is made up of four elements: interest free credit period, payment guarantee, costs of fraud and free gifts (air miles etc offered to cardholders as marketing incentives).
EuroCommerce, the European association of retail, wholesale and international traders, has been fighting for 10 years to show that charging retailers for these costs is fundamentally unfair and is in breach of European competition rules. The consumer is not in a position to see, let alone calculate, the cost of MIF: but the retailer is. The industry estimates that it pays up to €10bn per annum in interchange fees. Moreover it argues that these are costs for services from which the retailer in no way benefits. Why should the retailer pay for free gifts used solely to market cards? Why should the retailer pay for fraud when the security or otherwise of a card is controlled by the issuer? Indeed, since the costs of fraud are offset by the MIF, there is little incentive on banks to develop safer, fraud protected payment cards. And particularly, why should the MIF be charged as a percentage of the transaction value? Costs attributable to the retailer should be ‘per transaction’ and not ‘according to value’.
In December 2007, the European Commission vindicated these arguments, ruling that MasterCard should withdraw its cross-border fall-back MIF. This default MIF is set by the card schemes to deal with the difficulty of independently negotiating deals between each bank and the scheme. Studies show that the MSC never falls below this fall-back level, evidencing that there is no scope – even for the largest retailer – to negotiate on the MIF. This, in competition law terms, is a clear price-fixing agreement under Article 81 of the EU Treaty. It was also, ruled the Commission, illegal since MasterCard failed to show economic benefits sufficient to justify the system under the Article 81(3) exemptions. A further highly important point in the decision was that, as well as withdrawing the MIF, MasterCard was ordered to ‘refrain from adopting measures having a similar effect’. This must surely mean that to withdraw the MIF but to impose the same fees under a different name would be a breach of the decision, warranting fines under competition law.
Although a huge victory for commerce, for consumers and for common sense, there are a number of ‘buts’ to the decision. It only applies to cross-border interchange fees: the bulk of card business is national and domestic MIFs are as yet, not covered. It also only applies to MasterCard: an investigation against Visa was begun in January 2008 and is ongoing. Similarly, no decision has yet been taken on commercial cards, which attract extremely high interchange fees. Lastly, MasterCard has appealed the judgement. In law, this has no effect on the binding nature of the decision. MasterCard must comply and has done so from 21 June 2008: its cross-border interchange fee currently stands at zero. But there is no automatic alteration of contracts between a retailer and his acquiring bank. Retailers must insist their own banks rewrite their acquiring contracts by reducing the MSC – but many banks are currently failing to make the changes, through a failure – or a refusal – to understand. Some banks seem to think that the fact of the appeal somehow suspends the implementation of the decision. This is not the case. Moreover, although the principle of Article 81 holds at national level just as clearly as it does at European level, domestic MIFs will not be affected until national competition authorities follow the Commission’s precedent in their own jurisdictions. It appears that some are reluctant to do so while the appeal is pending. But an appeal can take four to five years. This matter must be resolved much sooner if SEPA has to have any chance of fulfilling its promises.
If it is not resolved, there is a distinct possibility that SEPA will make payments more expensive for many EU citizens. Far from enhancing competition, SEPA looks set to have opened the door to a Europe-wide duopoly for the two major card companies: Visa and MasterCard. Credit cards already function EU wide – but the great danger here is for debit cards. Currently national in scope, many debit card schemes operate highly effectively with no interchange fee. But with SEPA, banks must begin to offer debit cards which function in a number of member states (if not across the whole of the EU). So the obvious thing to do: migrate all your debit cards to either V-pay (Visa’s debit card brand) or Maestro (MasterCard’s) and you have instant SEPA with no fuss and a nice extra interchange fee bonus to boot. But who would pay for this windfall? The retailer and, ultimately, the consumer.
The European Commission and the ECB are calling for a new European card scheme. But no new scheme will improve on the current situation unless and until the interchange problem is definitively solved. The MIF is such a profit centre for banks that it would make no economic sense for them to opt for any system that did not operate it. Until costs are allocated according the ‘user-pays’ principle, no third scheme that did not offer MIF would stand a competitive chance.
In a free market economy, payment systems should be freed from the artificial constrictions of the MIF system. If each party to a transaction were able to clearly see the cost of each service involved and so able to choose to pay for those they individually prefer, free competition would ensure a more efficient, cheaper and fairer service for all.
These principle of fair allocation of costs must equally apply to the direct debit system in which a ‘multilateral balancing payment’ (MBP – MIF for direct debit) is also present in some member states. The joint ‘guidance’ statement of 4 September from the European Commission and the European Central Bank must be welcomed for recognising this, stipulating that such a fee would be acceptable for cross-border direct debits only if ‘objectively justified’ and only for a limited transitional period. Thereafter, there would no longer be an MBP at national or cross-border level. The MBP differs in important ways from the card MIF and is much less significant in terms of the amounts of money involved – but the principle is clearly the same.
It is time for these basic principles to be accepted throughout the European payments system. Competition law is a powerful tool but it is slow and it is blunt. It can only decide what is not allowed: it cannot set rules on what is. SEPA, from the outset, was to be an industry initiative. It was to be a roots-up revolution, not imposed by policy-makers but evolved voluntarily by the banking industry, through their body the European Payments Council. But such an evolution must be open and transparent in all its processes and decisions if it is to meet the needs not only of banks, but also of all users of payments systems in Europe.
The initial EPC roadmap suggested that the process would be complete by 2010 – current hopes are for 2012 at best. There is no definitive ‘end-date’, though many are suggesting that, if industry does not set itself a deadline, the Commission must step in. But the MIF issue must be resolved and if we are to wait for a decision of the European Court of First Instance and then, conceivably, a further appeal to the Court of Justice, any time limit becomes meaningless.
A dismantling of the interchange money-machine is crucial for the success of SEPA. This antiquated system costs business and consumers millions of euros per year and a solution to the problem has already been left until far too late in the process. There is no room for further delay. SEPA is going to happen: so much money, effort, time has been put into it by the banking industry, by regulators and by payment system users. Retailers have invested tens of thousands of euros in switching to the EMV protocol on which SEPA card payments are to be based.
It is essential that the principles of the MasterCard decision are fully understood and swiftly implemented. For SEPA to be the revolution it has the potential to be, it must be grounded on open and equitable cost-distribution structures. Technology is sprinting ahead and new payment methods are appearing daily – e-payments, mobile payments, contactless, biometric – all have great benefits to offer. But only if we have a truly free single euro payments area will such products be able to flourish. Only on such foundations will SEPA be able to sell itself to those who must ultimately choose: Europe’s citizens. We must seize SEPA as an opportunity to abolish old structures and bring Europe’s payment systems into the 21st century.