IDEAS home Printed from https://ideas.repec.org/a/aea/aecrev/v101y2011i4p1575-90.html
   My bibliography  Save this article

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
    as

    Download full text from publisher

    File URL: http://www.aeaweb.org/articles.php?doi=10.1257/aer.101.4.1575
    Download Restriction: Access to full text is restricted to AEA members and institutional subscribers.

    As the access to this document is restricted, you may want to search for a different version of it.

    References listed on IDEAS

    as
    1. Geoffrey R. Gerdes, 2008. "Recent payment trends in the United States," Federal Reserve Bulletin, Board of Governors of the Federal Reserve System (U.S.), vol. 94(Oct), October.
    2. Fumiko Hayashi, 2009. "Do U.S. consumers really benefit from payment card rewards?," Economic Review, Federal Reserve Bank of Kansas City, vol. 94(Q I), pages 37-63.
    3. Schmalensee, Richard, 2002. "Payment Systems and Interchange Fees," Journal of Industrial Economics, Wiley Blackwell, vol. 50(2), pages 103-122, June.
    4. James J. McAndrews & Zhu Wang, 2008. "The economics of two-sided payment card markets: pricing, adoption and usage," Research Working Paper RWP 08-12, Federal Reserve Bank of Kansas City.
    5. 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.
    6. 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 541-588, October.
    7. 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.
    8. Wilko Bolt & Sujit Chakravorti, 2008. "Economics of payment cards: a status report," Economic Perspectives, Federal Reserve Bank of Chicago, vol. 32(Q IV), pages 15-27.
    9. Kevin Foster & Erik Meijer & Scott Schuh & Mike Zabek, 2010. "The 2008 Survey of Consumer Payment Choice," Public Policy Discussion Paper 09-10, Federal Reserve Bank of Boston.
    10. Zhu Wang, 2010. "Regulating debit cards: the case of ad valorem fees," Economic Review, Federal Reserve Bank of Kansas City, vol. 95(Q I), pages 71-93.
    11. Wang, Zhu, 2010. "Market structure and payment card pricing: What drives the interchange?," International Journal of Industrial Organization, Elsevier, vol. 28(1), pages 86-98, January.
    12. Terri Bradford, 2008. "Developments in interchange fees in the United States and abroad," Payments System Research Briefing, Federal Reserve Bank of Kansas City, issue Apr.
    13. Gans Joshua S & King Stephen P, 2003. "The Neutrality of Interchange Fees in Payment Systems," The B.E. Journal of Economic Analysis & Policy, De Gruyter, vol. 3(1), pages 1-18, January.
    Full references (including those not matched with items on IDEAS)

    Most related items

    These are the items that most often cite the same works as this one and are cited by the same works as this one.
    1. Wilko Bolt & Sujit Chakravorti, 2010. "Digitization of Retail Payment," DNB Working Papers 270, Netherlands Central Bank, Research Department.
    2. Ron Borzekowski & Elizabeth K. Kiser & Mark D. Manuszak & Robin A. Prager, 2009. "Interchange fees and payment card networks: economics, industry developments, and policy issues," Finance and Economics Discussion Series 2009-23, Board of Governors of the Federal Reserve System (U.S.).
    3. Julian Wright, 2012. "Why payment card fees are biased against retailers," RAND Journal of Economics, RAND Corporation, vol. 43(4), pages 761-780, December.
    4. 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.
    5. Fumiko Hayashi, 2008. "The economics of payment card fee structure: policy considerations of payment card rewards," Research Working Paper RWP 08-08, Federal Reserve Bank of Kansas City.
    6. Wang, Zhu, 2010. "Market structure and payment card pricing: What drives the interchange?," International Journal of Industrial Organization, Elsevier, vol. 28(1), pages 86-98, January.
    7. Jonker Nicole, 2011. "Card Acceptance and Surcharging: the Role of Costs and Competition," Review of Network Economics, De Gruyter, vol. 10(2), pages 1-35, June.
    8. James J. McAndrews & Zhu Wang, 2008. "The economics of two-sided payment card markets: pricing, adoption and usage," Research Working Paper RWP 08-12, Federal Reserve Bank of Kansas City.
    9. Fumiko Hayashi, 2008. "The economics of payment card fee structure: what is the optimal balance between merchant fee and payment card rewards?," Research Working Paper RWP 08-06, Federal Reserve Bank of Kansas City.
    10. Zhu Wang, 2013. "Demand externalitites and price cap regulation: Learning from a two-sided market," Working Paper 13-06, Federal Reserve Bank of Richmond.
    11. Kim, Young Sik & Lee, Manjong, 2016. "Who should bear the resource cost of electronic transaction?," Journal of Macroeconomics, Elsevier, vol. 47(PB), pages 270-280.
    12. Reisinger, Markus & Zenger, Hans, 2019. "Interchange fee regulation and service investments," International Journal of Industrial Organization, Elsevier, vol. 66(C), pages 40-77.
    13. Bourguignon, Hélène & Gomes, Renato & Tirole, Jean, 2014. "Shrouded Transaction Costs," CEPR Discussion Papers 10171, C.E.P.R. Discussion Papers.
    14. Santiago Carbo-Valverde & Sujit Chakravorti & Francisco Rodriguez-Fernandez, 2009. "Regulating two-sided markets: an empirical investigation," Working Paper Series WP-09-11, Federal Reserve Bank of Chicago.
    15. Oz Shy & Zhu Wang, 2008. "Why do card issuers charge proportional fees?," Research Working Paper RWP 08-13, Federal Reserve Bank of Kansas City.
    16. Fumiko Hayashi & Stuart E. Weiner, 2006. "Interchange fees in Australia, the UK, and the United States : matching theory and practice," Economic Review, Federal Reserve Bank of Kansas City, vol. 91(Q III), pages 75-112.
    17. Marcos Valli Jorge & Wilfredo Leiva Maldonado, 2016. "Price differentiation and menu costs in credit card payments," Journal of Economic Studies, Emerald Group Publishing, vol. 43(2), pages 178-202, May.
    18. Chakravorti Sujit, 2003. "Theory of Credit Card Networks: A Survey of the Literature," Review of Network Economics, De Gruyter, vol. 2(2), pages 1-19, June.
    19. Wilko Bolt, 2012. "Retail Payment Systems: Competition, Innovation, and Implications," DNB Working Papers 362, Netherlands Central Bank, Research Department.
    20. ?zlem Bedre-Defolie & Emilio Calvano, 2013. "Pricing Payment Cards," American Economic Journal: Microeconomics, American Economic Association, vol. 5(3), pages 206-231, August.

    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

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:aea:aecrev:v:101:y:2011:i:4:p:1575-90. See general information about how to correct material in RePEc.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Michael P. Albert). General contact details of provider: http://edirc.repec.org/data/aeaaaea.html .

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service hosted by the Research Division of the Federal Reserve Bank of St. Louis . RePEc uses bibliographic data supplied by the respective publishers.