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To Surcharge or Not To Surcharge? A Two-Sided Market Perspective of the No-Surcharge Rule

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Abstract

In Electronic Payment Networks (EPNs) the No-Surcharge Rule (NSR) requires that merchants charge the same final good price regardless of the means of payment chosen by the customer. In this paper, we analyze a three-party model (consumers, merchants, and proprietary EPNs) to assess the impact of a NSR on the electronic payments system, in particular, on competition among EPNs, network pricing to merchants and consumers, EPNs’ profits, and social welfare. We show that imposing a NSR has a number of effects. First, it softens competition among EPNs and rebalances the fee structure in favor of cardholders and to the detriment of merchants. Second, we show that the NSR is a profitable strategy for EPNs if and only if the network effect from merchants to cardholders is sufficiently weak. Third, the NSR is socially (un)desirable if the network externalities from merchants to cardholders are sufficiently weak (strong) and the merchants’ market power in the goods market is sufficiently high (low). Our policy advice is that regulators should decide on whether the NSR is appropriate on a market-by-market basis instead of imposing a uniform regulation for all markets.

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Bibliographic Info

Paper provided by NET Institute in its series Working Papers with number 11-03.

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Length: 41 pages
Date of creation: Aug 2011
Date of revision:
Handle: RePEc:net:wpaper:1103

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Web page: http://www.NETinst.org/

Related research

Keywords: Electronic Payment System; Market Power; Network Externalities; No-Surcharge Rule; Regulation; Two-sided Markets; MasterCard; Visa; American Express; Discover.;

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  1. Wilko Bolt & Sujit Chakravorti, 2008. "Economics of payment cards: a status report," Economic Perspectives, Federal Reserve Bank of Chicago, issue Q IV, pages 15-27.
  2. Chakravorti Sujit, 2010. "Externalities in Payment Card Networks: Theory and Evidence," Review of Network Economics, De Gruyter, vol. 9(2), pages 1-28, June.
  3. Julian Wright, 2001. "The Determinants of Optimal Interchange Fees in Payment Systems," Industrial Organization 0108001, EconWPA.
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  6. Jean-Charles Rochet & Jean Tirole, 2003. "Platform Competition in Two-Sided Markets," Journal of the European Economic Association, MIT Press, vol. 1(4), pages 990-1029, 06.
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  8. Nirvikar Singh & Xavier Vives, 1984. "Price and Quantity Competition in a Differentiated Duopoly," RAND Journal of Economics, The RAND Corporation, vol. 15(4), pages 546-554, Winter.
  9. Sujit Chakravorti & Roberto Roson, 2004. "Platform competition in two-sided markets: the case of payment networks," Working Paper Series WP-04-09, Federal Reserve Bank of Chicago.
  10. Chakravorti, Sujit & To, Ted, 2007. "A theory of credit cards," International Journal of Industrial Organization, Elsevier, vol. 25(3), pages 583-595, June.
  11. Oz Shy & Zhu Wang, 2008. "Why do card issuers charge proportional fees?," Research Working Paper RWP 08-13, Federal Reserve Bank of Kansas City.
  12. Sujit Chakravorti & William R. Emmons, 2001. "Who pays for credit cards?," Occasional Paper; Emerging Payments EPS-2001-1, Federal Reserve Bank of Chicago.
  13. Marc Rysman, 2007. "AN EMPIRICAL ANALYSIS OF PAYMENT CARD USAGE -super-* ," Journal of Industrial Economics, Wiley Blackwell, vol. 55(1), pages 1-36, 03.
  14. Fumiko Hayashi, 2004. "A puzzle of card payment pricing : why are merchants still accepting card payments?," Payments System Research Working Paper PSR WP 04-02, Federal Reserve Bank of Kansas City.
  15. Wilko Bolt & Sujit Chakravorti, 2008. "Consumer choice and merchant acceptance of payment media," Working Paper Series WP-08-11, Federal Reserve Bank of Chicago.
  16. Kitch, Edmund W, 1990. "The Framing Hypothesis: Is It Supported by Credit Card Issuer Opposition to a Surcharge on a Cash Price?," Journal of Law, Economics and Organization, Oxford University Press, vol. 6(1), pages 217-33, Spring.
  17. Jean-Charles Rochet & Jean Tirole, 2002. "Cooperation Among Competitors: Some Economics Of Payment Card Associations," RAND Journal of Economics, The RAND Corporation, vol. 33(4), pages 549-570, Winter.
  18. Baxter, William F, 1983. "Bank Interchange of Transactional Paper: Legal and Economic Perspectives," Journal of Law and Economics, University of Chicago Press, vol. 26(3), pages 541-88, October.
  19. Schwartz Marius & Vincent Daniel R., 2006. "The No Surcharge Rule and Card User Rebates: Vertical Control by a Payment Network," Review of Network Economics, De Gruyter, vol. 5(1), pages 1-31, March.
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