Topic 5 - Payment Systems

Question 1

Open vs closed card networks

Answer 1

Open - multiple issuers (visa Mastercard)
Closed. - American Express and discover - issue own cards and control both the issuing and processing sides of transactions

Significant fees primary from merchants are collected to facilitate transactions

Question 2

Describe payment systems as two sided platforms

Answer 2

Payment card networks define rules and standards to ensure acceptance of cards and security of transactions
Consumers bank (issuer) and merchants bank (acquirer) must cooperate to enable transactions

Question 3

Interchange fees

Answer 3

Transaction fees that the merchants bank account must pay whenever a customer uses a debit or credit card to purchase from their store.
Fees are paid to the issuing bank to cover handling costs, fraud and bad debt costs, risk involved in approving the transaction

Question 4

Payment systems as two-sided platforms — cross side effects among merchants and customers

Answer 4

Interchange fees influence the volume of transactions that are paid by cards

Question 5

Describe payment systems - with a three party set up

Answer 5

Merchant -$100-> customer -$100-> American Express -$97->merchant
No interchange fee - direct choice of the prices that are paid by the end user
Typically between 2.5 and 3.5% of transaction

Question 6

Describe a four party set up

Answer 6

Use interchange fees to allocate the total cost of payment card transactions between the issuer and the acquirer

Merchant -100-> customer -100-> issuing bank -98.5 -> acquiring bank -98->merchant

Question 7

What are rules that help maintain high mark ups on interchange fees

Answer 7

• merchants can’t offer lower prices to consumers with cards that charge lower fees
• consumers do not directly face charges - they don’t care to use cards with lower fees
• governance

Question 8

What are the two governance rules that help maintain high interchange fees mark ups

Answer 8

No-surcharge rule - affiliated merchants are not allowed to impose surcharges on customers who pay with card
Honour all cards rule - affiliated merchants much accept any card of any issuing member

Question 9

Describe the visa contract of 2008 - no surcharge rule

Answer 9

If merchant offers discount for payment using comparable Visa card, they must offer the same discount to Mastercard (or other way round)
Effect - merchant cannot offer better terms to customer who buy with Mastercard than with visa
Only option - merchant to not offer acceptance of a network card that he does not like

Question 10

Describe the honour all cards rule in the visa 2008 contract

Answer 10

Must accept all valid Visa cards when presented as payment
Visa debit cards issued by any other visa network bank
Any other visa products - tying

Question 11

what is product tying

Answer 11

Cmpany requires customers to purchase one product as a condition for buying another product (tied product)

Question 12

Anti competitive

Question 13

DESCRIBE MARKET distortion due to interchange fees

Answer 13

Networks have incentives to keep increasing fees to increase number of issuers
Claim that interchange fees are needed to encourage consumers to substitute cash payments for card payments
Merchants claim that interchange fees inflate the cost of accepting payment cards -> retail prices increase for all consumers to recoup the merchant fees from credit card sales

Question 14

How are different payments subsidised

Answer 14

Card transactions subsidised by cash transactions
Card users are subsidised by non-users
High cost card transactions are subsidised by low cost card transactions