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Why Do Payment Card Networks Charge Proportional Fees?

Author

Listed:
  • Oz Shy
  • Zhu Wang

Abstract

This paper explains why payment card networks charge fees that are proportional to the transaction values instead of charging fixed per-transaction fees. We show that, when card networks and merchants both have market power, card networks earn higher profits by charging proportional fees. It is also shown that competition among merchants reduces card networks' gains from using proportional fees relative to fixed per-transaction fees. Merchants are found to earn lower profits under proportional fees, whereas consumer utility and social welfare are higher. Our welfare results are then evaluated with respect to the current regulatory policy debates. (JEL E42, G21, G28)

Suggested Citation

  • Oz Shy & Zhu Wang, 2011. "Why Do Payment Card Networks Charge Proportional Fees?," American Economic Review, American Economic Association, vol. 101(4), pages 1575-1590, June.
  • Handle: RePEc:aea:aecrev:v:101:y:2011:i:4:p:1575-90
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    File URL: http://www.aeaweb.org/articles.php?doi=10.1257/aer.101.4.1575
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    References listed on IDEAS

    as
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    Cited by:

    1. Bachmann, Rüdiger & Cooper, Daniel, 2014. "The Ins and Arounds in the U.S. Housing Market," CEPR Discussion Papers 10041, C.E.P.R. Discussion Papers.
    2. Simon Loertscher & Andras Niedermayer, 2012. "Fee-Setting Mechanisms: On Optimal Pricing by Intermediaries and Indirect Taxation," Department of Economics - Working Papers Series 1162, The University of Melbourne.
    3. Naoki Wakamori & Angelika Welte, 2017. "Why Do Shoppers Use Cash? Evidence from Shopping Diary Data," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 49(1), pages 115-169, February.
    4. Gokhan Guven & Eren Inci & Antonio Russo, 2017. "Apparent Competition in Two-Sided Platforms," CESifo Working Paper Series 6660, CESifo Group Munich.
    5. Arango, Carlos & Huynh, Kim P. & Sabetti, Leonard, 2011. "How do you pay? The role of incentives at the point-of-sale," Working Paper Series 1386, European Central Bank.
    6. Alin OPREANA & Simona VINEREAN, 2015. "Analysis of the Economic Research Context after the Outbreak of the Economic Crisis of 2007-2009," Expert Journal of Economics, Sprint Investify, vol. 3(1), pages 77-92.
    7. John Bagnall & David Bounie & Kim P. Huynh & Anneke Kosse & Tobias Schmidt & Scott Schuh, 2016. "Consumer Cash Usage: A Cross-Country Comparison with Payment Diary Survey Data," International Journal of Central Banking, International Journal of Central Banking, vol. 12(4), pages 1-61, December.
    8. Johannes Muthers & Sebastian Wismer, 2012. "Why Do Platforms Charge Proportional Fees? Commitment and Seller Participation," Working Papers 115, Bavarian Graduate Program in Economics (BGPE).
    9. repec:bla:randje:v:48:y:2017:i:2:p:467-484 is not listed on IDEAS
    10. Jonathan Chiu & Tsz-Nga Wong, 2014. "E-Money: Efficiency, Stability and Optimal Policy," Staff Working Papers 14-16, Bank of Canada.
    11. Wang, Zhu, 2016. "Price cap regulation in a two-sided market: Intended and unintended consequences," International Journal of Industrial Organization, Elsevier, vol. 45(C), pages 28-37.
    12. Wilko Bolt & Sujit Chakravorti, 2011. "Pricing in Retail Payment Systems: A Public Policy Perspective on Pricing of Payment Cards," DNB Working Papers 331, Netherlands Central Bank, Research Department.
    13. Mark J. Tremblay, 2016. "Vertical Relationships within Platform Marketplaces," Games, MDPI, Open Access Journal, vol. 7(3), pages 1-11, July.
    14. Zenger, Hans, 2012. "Differentiated interchange fees," Economics Letters, Elsevier, vol. 115(2), pages 276-278.
    15. Miao, Chun-Hui, 2016. "Licensing a technology standard," International Journal of Industrial Organization, Elsevier, vol. 47(C), pages 33-61.
    16. Wismer, Sebastian, 2013. "Intermediated vs. Direct Sales and a No-Discrimination Rule," Annual Conference 2013 (Duesseldorf): Competition Policy and Regulation in a Global Economic Order 79999, Verein für Socialpolitik / German Economic Association.
    17. Adachi, Takanori & Ebina, Takeshi, 2014. "Double marginalization and cost pass-through: Weyl–Fabinger and Cowan meet Spengler and Bresnahan–Reiss," Economics Letters, Elsevier, vol. 122(2), pages 170-175.
    18. Jonathan Chiu & Tsz-Nga Wong, 2015. "On the Essentiality of E-Money," Staff Working Papers 15-43, Bank of Canada.
    19. Wilko Bolt, 2012. "Retail Payment Systems: Competition, Innovation, and Implications," DNB Working Papers 362, Netherlands Central Bank, Research Department.
    20. Zhang, David Hao, 2016. "How do people pay rent?," Research Data Report 16-2, Federal Reserve Bank of Boston.
    21. Korsgaard, Søren, 2014. "Paying for payments: free payments and optimal interchange fees," Working Paper Series 1682, European Central Bank.
    22. Arango, Carlos & Huynh, Kim P. & Sabetti, Leonard, 2015. "Consumer payment choice: Merchant card acceptance versus pricing incentives," Journal of Banking & Finance, Elsevier, vol. 55(C), pages 130-141.

    More about this item

    JEL classification:

    • E42 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Monetary Sytsems; Standards; Regimes; Government and the Monetary System
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation

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