Payments under the Murray microscope

As Australian – and global – reforms of payments systems have demonstrated, they are complex networks. Complex to operate, complex to regulate, complex to forecast. But they are vital to efficient economies.

So the Australian Financial System Inquiry chaired by David Murray was absolutely right to focus on payments systems but I can’t help but fear in some cases the complexity has proved too much.

"The critical question is whether (these recommendations) would actually improve the efficiency or cost of the payments system and justify the considerable disruption."
Mike Ebstein, Principal MWE Consulting

There was some very welcome and well considered emphasis on encouraging innovation. For example the “Innovation Collaboration”, a permanent committee made up of public and private sector representatives. Recommendation 15 outlines a plan to develop a national strategy to deliver trusted digital identities to individuals and businesses. These appear to me to be eminently sensible strategies to facilitate and drive the capabilities being offered through the growth of emerging technologies. 

But along with much admirable scrutiny, the FSI seems to have unearthed some problems that don’t really exist and claimed benefits from some changes without sufficient evidence. 

Take Recommendation 16 which seeks to enhance retail payments regulation by clarifying thresholds for regulation by ASIC and APRA. It also seeks to strengthen consumer protection by mandating the ePayments Code and introducing a separate prudential regime with two tiers for purchased payment facilities. 

It is hard to argue with the stated objective of providing increased certainty to industry whilst accommodating innovation. But I do wonder about the depth of the problems. In defining the problem being addressed by this recommendation, the Report states “some submissions note that current retail payments system regulation is fragmented, complex and lacks clarity”. 

It does not suggest there is a major issue here and any further regulatory changes should be cognisant of that and be evolutionary rather than revolutionary. 

The next recommendation is more prescriptive and its benefits less certain. 

Recommendation 17 tackles the matters of interchange and surcharging. It seeks to improve the regulation of interchange fees (fees charged between participants in the payments system) by clarifying thresholds, broadening the range of fees and payments and lowering interchange fees; and to improve surcharge regulation by expanding its application and ensuring customers using lower-cost payments cannot be over-surcharged. 

In its preamble to the recommendations, the Report makes reference to the fact that some jurisdictions are now implementing lower interchange fee caps than Australia; considers the imposition of more prescriptive surcharge rules on merchants; and notes that some jurisdictions operate a zero interchange debit system. 

But I don’t believe the Report defines any actual issues with the level of interchange rates now applying in Australia beyond describing a lack of rationale for the limiting of interchange regulation and a narrow focus on interchange caps that excludes some payment providers. 

On an overall level, I don’t see where the Report has demonstrated a significant interchange problem exists. Industry needs certainty and to hold a Damoclean Sword above the industry by suggesting zero interchange in the absence of any compelling logic is in my opinion an unreasonable position.

The strongest endorsement contained in the Report states banning interchange could improve efficiency. If the Report showed it would do so, that would provide a more solid intellectual basis. Of some interest is the fact the New Zealand debit market, cited as an example of a zero fee market, is currently experiencing a migration of card payments from debit to credit – that is from a cheaper to more expensive network.

In further defining interchange problems, the Report states “payments system efficiency could be increased by lowering interchange fee caps”. Further, it suggests replacing the three-year weighted average with hard caps to address an imbalance by which smaller merchants pay higher fees than larger merchants. It also raises the application of caps as the lesser of a fixed amount and a fixed percentage of transaction values as well as finally raising the possibility of banning interchange altogether. 

I don’t see why lower fees to larger merchants is per se a problem unless it can be further demonstrated that larger merchants are obtaining lower fees to an extent that goes beyond what would be reasonable to expect in a competitive market. 

The introduction of fees based upon the lower of a fixed amount or a percentage would create substantial issues for not only the payments industry but also the reward programs sector. Such a fee regime could presumably increase credit card payments but this would be on a fundamentally differing financial model and would require a restructuring of the basis upon which reward points are accumulated. 

This clearly would require a detailed cost-benefit analysis from the perspectives of all impacted parties. Commercial card users and high net worth personal credit card customers would be particularly affected. 

Again, the critical question to ask is whether this would actually improve the efficiency or cost of the payments system and justify the considerable disruption. 

On the question of surcharging, the Report proposes the introduction of a three tiered system provider classification with surcharging based upon each of these three categories. 

This may help regulate some current surcharge issues but the Report fails to tackle the major difficulty now faced in enforcing surcharge fees that reflect reasonable costs. Unless there is a mechanism that recognises the differing and sometimes conflicting roles played by payment providers, merchant acquirers and commercial banks, then nothing will change. 

Finally, I don’t believe the Report has considered the validity of a pricing rationale that has facilitated the introduction of surcharging on cards but has remained silent on the surcharging of other payment products. Notably cash. 

The RBA’s recent report “The Evolution of Payment Costs in Australia” shows that cash was the sole payment product whose resource cost increased between 2006 and 2013. It also clearly shows that the acceptance of cash involves a real and quantifiable cost to merchants. In addition, it reports that the tender time is the most significant component of payment resource costs carried by merchants and the introduction of contactless technology has reduced the tender time to less than cash. 

My final questions are therefore; if merchants consider that payment costs should be passed on to customers, why is cash not similarly treated? Or why should the credit card surcharge ever exceed the cost of accepting the card minus the cost of accepting cash? And finally, given the widespread use of contactless terminals, why has the incidence of surcharging not been reduced?

The views and opinions expressed in this communication are those of the author and may not necessarily state or reflect those of ANZ.

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