Comment by thundergolfer
2 years ago
The Acquired podcast did an episode on the history of Visa that covers a lot of how the credit card industry works.
As another commenter noted, this article doesn’t pull out clearly how this whole credit card reward scheme actually works. The Acquired episode does, by the end.
It works like this: the ‘luxury’ credit card providers, partnering with Visa, take money away from merchants in order to extract profit for themselves while keeping the credit card consumers happy. The merchants are pissed about this, and regularly make lawsuits to regulate interchange. The money extracted by the credit card companies and Visa causes merchants to raise prices for everyone regardless of whether they have a rewards card or use a credit card at all.
This creates in effect a massive money transfer from the poor, who do not use rewards cards, to the rich consumers who do. The Acquired podcast provides specific numbers on just how much worse off poor consumers are given this system, and how much the richest consumers benefit.
I come from Australia where interchange fee regulation tamps down on the kind of credit card mania and fetishism seen in the USA.
To add to your point; there's an IMF paper[1] backing this claim of "massive money transfer from the poor...to the rich".
I'm quoting the summary below
"We study credit card rewards as an ideal laboratory to quantify redistribution between consumers in retail financial markets. Comparing cards with and without rewards, we find that, regardless of income, sophisticated individuals profit from reward credit cards at the expense of naive consumers. To probe the underlying mechanisms, we exploit bank-initiated account limit increases at the card level and show that reward cards induce more spending, leaving naive consumers with higher unpaid balances. Naive consumers also follow a sub-optimal balance-matching heuristic when repaying their credit cards, incurring higher costs. Banks incentivize the use of reward cards by offering lower interest rates than on comparable cards without rewards. We estimate an aggregate annual redistribution of $15 billion from less to more educated, poorer to richer, and high to low minority areas, widening existing disparities."
[1]
https://www.imf.org/en/Publications/WP/Issues/2023/03/10/Who...
I don't read that paper as backing that claim. At best the paper finds that the mechanism is more complicated than "money transfer from the poor... to the rich". To quote the conclusion directly:
"Notably, our results are not driven by income, as they hold within the sub-samples of low-, middle- and high-income individuals. In particular, high-FICO high-income consumers benefit the most from reward credit cards, but they do so at the expense of low-FICO high-income consumers. While credit card rewards are often framed as a “reverse Robin Hood” mechanism in which the poor subsidize the rich, our results show that this explanation is at best incomplete."
Technically this paper doesn’t say “poor to rich” it says “subprime borrowers to super-prime borrowers”. Income-to-FICO score is only moderately correlated. Well, it says rich to poor in the abstract and conclusions, but not the actual writing.
The paper says high-income borrowers who run balances “lose” the most in this transfer - because they spend more in absolute terms, and banks are better able to capture that through balance increase.
To quote: “our findings are inconsistent with the reverse Robinhood hypothesis”.
This is interesting. The study you cite and quote is about a transfer of money from "naive" credit card consumers to "sophisticated" credit card consumers, which correlates to "poor to rich", "less educated to more educated", etc. I'm even more interested in the transfer that occurs from both cash and non-reward-card consumers to specifically reward-card users.
Can't this be rewritten in plain English as "unsophisticated (dumb) people don't know how to use credit cards in their own interest?". Isn't that just the free in free market?
Why is a principled objection to a paternalistic state intervening to protect dumb people from making bad decisions seen as unethical? What entitles dumb people to such protection?
What’s dumb is the statement or implication, which is made constantly, that the typical person is dumb. I don’t mean to pick on you personally, who I have no grievance with, but rather to heap scorn on an idea both illogical and presented in bad faith frequently, a practice I always aspire to.
The typical person is the result of ruthless selection pressures over millions or billions of years depending on how one sets their watch, a chain of the fittest, savviest, toughest, and hardest to kill members of the most dangerous life form we know about.
Most people, more than half, are unsophisticated by the definitions implied, which would make people of above average intelligence “dumb”. Dubious, to put it mildly.
A much more plausible theory, and one not laden with all the trim and tackle of a bigoted agenda, is that the typical person receives a poor education, leaving them ill-equipped to outmaneuver operations research PhDs whose entire job is to use the very efficient frontier of mechanism design, dark patterns writ large, to outfox individuals who (in the typical case) didn’t have wealthy parents or some other greased path into an advanced degree.
And the real kicker to me, as someone who has spent serious time with seriously high-profile people in technology, is that for whatever combination of reasons (one watches out for post hoc ergo propter hoc type fallacies, cause and effect are nuanced in human affairs), I’ve found that the higher someone’s station in life is, the less formidable they seem. I don’t know if power corrodes the necessity to stay sharp, or if privileged positions emphasize some other set of traits at the expense of basic competencies, but if half the big shots I’ve met started from scratch in my neighborhood, they’d have been an easy mark for the unscrupulous and/or hungry.
Being ill-served by an education system that is broken by design, and being outfoxed by fraudsters with sophisticated mathematics who all but write their own laws doesn’t make someone stupid.
12 replies →
That's a one sided view of it. Credit cards increase customer spending behavior which benefits merchants. For low end customers, the appeal is access to credit, either long-term or just in between paychecks. For high end customers, the appeal is the rewards and perks they get, and the convenience and safety of payments.
This is why you are most likely to see credit card surcharges for tax payments, court costs, and other non-discretionary charges. Anything that either is optional to pay, or isn't but they really want you to pay now (ex. a debt collector) has every incentive to subsidize the card acceptance fee as it will increase their sales.
A huge aspect people ignore is how expensive it is to handle cash. From storage, administration, transportation, loss, etc. it's usually a little more expensive to take cash vs. card.
This is why your grocery store partners with an ATM network to let you take out extra cash at the POS. As long as you're paying the fee, they'll do whatever they can to trade you cash for a digital deposit into their bank account.
I worked at several small businesses and we always preferred cash, we even accepted multiple currencies. The handling was no problem but I admit that it must be more difficult for larger businesses.
Card payments made the price of the service more expensive for all customers because we weren't allowed to have a card payment fee.
22 replies →
I was just thinking about the other day how much cash used to flow through grocery stores.
The routine was to show up at the store with your paycheck, cash it, pay for your groceries, and keep the change.
Our store used to have the safe up front next to the bags of charcoal.
This is why your grocery store partners with an ATM network to let you take out extra cash at the POS. As long as you're paying the fee, they'll do whatever they can to trade you cash for a digital deposit into their bank account.
This is not universal.
Where I currently live, and where I lived five years ago, supermarkets charge a fee (50¢ here, 25¢ where I used to live) to take out cash at the POS, because the card transaction cost more than handling cash.
There was a lot of "Are you sure?" prompts on the screen because the supermarkets (both big chains) didn't want the burden of the plastic transaction.
I've seen it stated a lot in technology forums that "cash is more expensive for merchants than cards," but I've never seen that spelled out from any source other than the card companies.
Every low-margin business I patronize, from the garden centers, to the convenience stores, to the antique stores all either offer a discount for cash, or charge a fee to use plastic.
Just last week, a woman who's run an antiques store for 35 years told me that card fees were going to put her out of business, and she practically begged me to go down the street to my bank to get cash for my purchase.
3 replies →
Meanwhile eBay forces payments by debit/credit card/Paypal, because they have arrangements with a (formerly owned) processor, even though I, as a seller, would be happy to accept cash/drafts/cheques/COD/whatever to keep that ~3%.
You do not need credit card for that. Debit card is enough.
My wife takes big payments at her company.
I'm pretty sure lots of people are putting these on credit and... might not ever pay it back.
She literally couldnt get cash from these people.
(US medical btw)
1 reply →
I agree, which is why merchants should be allowed to charge different prices for different card operators and for cash.
I think the other thing that happens is that governments outsource electronic payment collection to a third party which imposes a surcharge for its collection and remits the full nominal amount to the government.
Which can lead to seemingly ludicrous results somethings. I paid a "convenience" fee for parking the other night because presumably collecting a bunch of quarters from a meter was cheaper for the municipality than getting a bit less money transferred from the parking app people?
The other side is also that this is great for card users because we're the price sensitive side of the transaction. I feel like this dynamic is rarely talked about when it comes to two sided transactions. Businesses can't "just pass it to the consumer" is a lot of cases and just have to eat it because businesses don't have that kind of pricing power.
This is how Doordash works on the restaurant side, they can't charge you the customer 20-30% of gross on orders, everyone would stop ordering. So mostly they just have to eat it or lose those sales. Some places choose to lose, some choose to raise prices on DD if they can but mostly they eat it.
> This is why you are most likely to see credit card surcharges for tax payments, court costs, and other non-discretionary charges.
This will vary depending on where you are.
Most retailers here in New Zealand pass the fee on to customers. Even paywave gets the percentage fee.
A large segment (in the US) that does _not_ subsidize credit card fees are gas stations, where, for the most part, the price for paying in cash is lower than with credit, or there is a per transaction surcharge for using a credit or debit card.
Car-centric as it is, gas prices are arguably the commodity that US consumers are most price sensitive to (and which is also most commonly evoked in politics). So this shows that consumers would prefer to discriminate between card and no-card purchases if given the option, except that the vast majority of retail outlets do not give them that option.
Is this still true somewhere? I thought this went out decades ago, except maybe for a few Mom and Pop places.
3 replies →
>This creates in effect a massive money transfer from the poor
I'm always a little confused on exactly HOW this plays out. I could see someone with terrible credit being denied, but most cash back cards I use are hardly gated / limited to "rich folks only".
I feel like the reasons / the way it plays out are more complex than the results. And really if someone is poor, struggling to pay their card, that's a larger issue than the type of card they use.
I'm just not sure reward cards = "This creates in effect a massive money transfer from the poor" as simply as stated.
There was a study by the Federal Reserve that came to the conclusion last year that rewards cards is basically a money transfer of ~$15 billion from poor to rich per year. Discussion on Hacker News about it: https://news.ycombinator.com/item?id=34492502
That is exactly the opposite what the study states. https://www.federalreserve.gov/econres/feds/files/2023007pap...
In the abstract:
> sophisticated individuals profit from reward credit cards at the expense of na¨ıve consumers.
Then in the study:
> Next, we study whether the redistribution across FICO scores is driven by differences in cardholders’ income, suggesting a transfer from poor to rich consumers. Indeed, We adopt the following terminology: “Reward cards” are credit cards that earn either cash back, miles, or points; “classic cards” are credit cards that are do not earn any form of rewards. credit card rewards are often framed as a “reverse Robin Hood” mechanism in which the poor subsidize the rich. Our results, however, show that this explanation is at best incomplete. [...] Thus, high-income consumers with high FICO scores benefit from reward credit cards largely at the expense of high-income consumers with low FICO scores.
8 replies →
Gotta be honest that I'm not reading 60 pages at this moment.
But that reads like they're talking about the net effect measuring across FICO scores, but it's not clear that they're talking about the overall cause / if this is a case where some of the poor could in fact choose to use these cards.
Being poor is complex, just not having time (two jobs, etc) often means they don't have time for a lot of things, including shopping for credit cards. I wonder if things like THAT are playing a part.
I don't disagree with the math on the end result, I do think the reason is larger than just say rewards cards, and has to be approached careful.
4 replies →
It plays out this way because anything anyone buys with a credit card, reward card or not, ends up costing 2-3% more than it would otherwise have, because of interchange fees. If you have a rewards card, the CC issuer turns around and gives you, say, half of that back (1% cashback on everything) and keeps the rest. It's kind of like a tax break that you only qualify for if your credit score is above a certain threshold, but you have to pay into regardless of income/credit score.
> ends up costing 2-3% more than it would otherwise
This is a very simplified view. Cash handling is not free. Fraud levels with cash are different. Overall attractiveness of a small but cash-only business is different.
9 replies →
The median credit score for low-income Americans is 658 (US average is 714): https://www.fool.com/the-ascent/research/average-credit-scor...
It looks like a number of decent rewards cards require a credit score over 670.
Poor people, actual poor people who are just scraping by, usually have bad credit and cannot get credit cards.
Poor people can always get credit cards. They get constant offers for them. The catch is that they are terrible cards with fees and insane rates. The credit industry is perfectly happy to let everyone get into massive debit. They'll give them to anyone (https://www.mymoneydesign.com/nine-year-old-daughter-credit-...)
1 reply →
because poor people, typically: - do not quality for high-rewards cards (which have higher credit score thresholds) - if not savvy, carry a balance because they can't afford to pay off the amount in full, are subject to higher interest rates because those are the cards they qualify for, and thereby pay much more than than well off consumers (increasing the transfer of wealth) - if savvy, realize that having a credit card costs them more than not, and stick to cash - are more likely to be receiving payment for services in cash themselves and will just spend that rather than depositing and using a CC (if they even have a bank account)
(update: 4.5% of US households are unbanked; these are mostly from the lower quantile) https://www.fdic.gov/analysis/household-survey/index.html
Here's the Acquired episode mentioned.
https://www.acquired.fm/episodes/visa
> The money extracted by the credit card companies and Visa causes merchants to raise prices for everyone regardless of whether they have a rewards card or use a credit card at all.
There has been nothing stopping US merchants from offering cash and/or debit card payers a discount since Oct 2011.
https://www.ftc.gov/business-guidance/resources/new-rules-el...
Most merchants are betting that people paying with credit cards are willing to buy sufficiently more or buy at sufficiently higher prices such that credit card transaction costs are more than offset.
That is the only reason why a cash/debit card discount would not be advertised.
Edit to respond to below:
I don’t buy that. Merchants of all types already engage in myriad types of discounts and promotions to price discriminate customers all the time.
A simple sign saying “x% discount for paying cash/debit” is of negligible complexity.
Does accepting cash really save a business that much money? I've heard arguments in the past that it ends up being a negligible difference once you account for all costs of processing cash (someone has to take it to the bank, it can get stolen in a robbery, employees can skim, you have to count it, you need a safe, you need cash deliveries, etc).
I have no numbers, so it could be totally off-base, but it feels not-impossible that it costs a percentage or two to process all your cash anyway, so the difference between cash & credit cards isn't actually that big. It's just that the interchange fees show up as one big chunk whereas the cash processing is lots of little bites, or even accounting for things that didn't happen (like skimming).
I guess this only applies if you're legitimately reporting all your cash take, if the business itself is skimming for tax reasons then the savings on cash would be substantial.
>It's just that the interchange fees show up as one big chunk whereas the cash processing is lots of little bites, or even accounting for things that didn't happen (like skimming).
Not just skimming, but lost business for cash-only establishments is huge. The amount probably varies by type of business, but I sometimes go to a bar that's cash-only and I've seen so many people walk in, try to order, and walk out and never come back once they find out it's cash-only. Even groups of 15-20 people. That's a significant cost (in lost revenue) even if it doesn't directly show up as a line item.
Even I admit to choosing a different place from time to time I think "I could go to the cash only bar, but then I'd have to go to the ATM first or I could just go to the other place that doesn't require an extra trip to the ATM. I should probably just go to the ATM so I could have some cash on me anyways, but traffic is heavy or it's cold/rainy/dark/late."
1 reply →
yes there is. that's an enormous added pricing and communication complexity for businesses. which we know has a high cost because of all the businesses who have decided it would be higher than just stomaching the credit card fees.
Would a 1 percent cash or debit discount be an enormous burden? Some merchants already programmed their terminals to prod debit customers into entering their PIN rather than charging it as credit, so would offering a discount really be that much harder?
1 reply →
I don't disagree with your point; I do want to point out, though, that whether it's "the merchants have to raise their prices" or "the merchants benefit too and are complicit", the end result is still that it's still the poor who lose.
> The money extracted by the credit card companies and Visa causes merchants to raise prices for everyone regardless of whether they have a rewards card or use a credit card at all.
Case studies indicate otherwise.
Dodd-Frank Act postulated what you stated, that higher fees result in higher prices for consumers ... and if you lowered the fees for the merchants, merchants would lower their prices (to pass along that savings back to the consumers).
But studies have shown otherwise, and merchants did not lower fees.
https://www.cutimes.com/2015/09/03/durbin-failing-to-lower-m...
Claiming that merchant fees result in higher prices is different from claiming that reducing merchant fees would directly, immediately, or measurably lower prices. Isn't a plausible explanation that companies are hesitant to lower prices for any reason?
Let's consider the opposite scenario, if Visa raises their fees do merchants keep prices where they are? I suspect not.
Also true for Australia! When they regulated interchange, merchants did not pass the savings on to consumers.[1]
[1] https://laweconcenter.org/resources/the-effects-of-price-con...
That think tank is funded[1] by the anti-regulation Charles Koch Institute and the article should be read with that in mind.
[1]: https://www.influencewatch.org/non-profit/international-poli...
1 reply →
> Two thirds of the merchants surveyed reported no change or didn't know the change in their debit costs post-regulation. One fourth actually reported an increase in debit costs
This is an interesting flywheel. Once I realized that by not using a CC I was subsidizing everyone else, I decided to opt into using a high reward credit card myself.
There are Prisoner's Dilemmas everywhere.
Many jobs require a college degree as a blunt filter for employee quality. Now that more and more people have that so it's been devalued. You now need specific majors or to come out of an elite college to get the same advantage that used to be conferred by being a college grad. Colleges talk about affordability but many colleges spend big on recruiting star professors and new facilities to compete in the rankings and alumni donations arms race.
Car traffic makes not driving dangerous so people are incentivize to drive. SUVs make driving a sedan more dangerous during crashes so people choose to buy bigger cars.
Marketers race to the bottom on ever more annoying, numerous, and louder ads. People block or mentally tune out ads which feeds back into advertisers pushing the envelope to get noticed.
If ransomware victims did not pay it would become unprofitable. But each business is rightfully concerned about mitigating its immediate business interruption.
Related - home loans to make buying homes accessible → higher home prices → now everyone has to get a loan. Same with college loans.
1 reply →
> The money extracted by the credit card companies and Visa causes merchants to raise prices for everyone regardless of whether they have a rewards card or use a credit card at all.
This creates in effect a massive money transfer from the poor, who do not use rewards cards, to the rich consumers who do.
Not quite. Credit card companies obligate merchants to charge the same prices regardless of whether you pay with a card, but merchants frequently don't honor that obligation. And there are also merchants who only take cash.
The poorest customers are likely to patronize these merchants. They're also likely to be given discounts that aren't card-related; the whole idea of price discrimination is that, because impoverished customers have low willingness to pay, you charge them less.
In a voluntary system, money transfers are always going to end up being much smaller than they looked like they would be when you thought about their effects, because people adjust their behavior to avoid them.
> Credit card companies obligate merchants to charge the same prices regardless of whether you pay with a card
No longer true in most of the US, actually.
https://www.lawpay.com/about/blog/credit-card-surcharge-rule...
It creates a massive money transfer from small businesses to credit card companies, transfer partners, and wealthy consumers.
Seems to make sense to transfer money from one group to another for a service that one group uses and the other provides.
I see interchange is capped at 0.20%. How do credit card companies not lose money by giving a 60 day interest free loan to customers? That is what interchange fee covers. BNPL providers charge 4% for 90 days interest free loans to the merchant.
In jurisdictions that cap interchange banks cut the fat. No rewards programs, and ending perks like price protection and extended warranties. On the revenue side they are more likely to charge an annual fee. Some customers carry balances at 29.99%.
Interchange is not capped at 0.2%
For consumer cards in EU it is. 0.2% for debit, 0.3% for credit.
1 reply →
Theres a net gain between credit card rewards and higher prices for reward card users?
Yes because they are required to charge non reward customers the same amount and competitive markets forced prices down.
Suppose the reward is 2% so someone is paying 98% of the listed price. Now if everyone was a rewards customer the price just moves to 102.04$ from 100$, in effect nothing changes. However not everyone uses a rewards card, and the prices stay the same.
Net result with an even split would be that 98% discount applies to 101$ and Bob an unrelated customer is stuck paying the extra 1% to give the reward customer their 1% savings.
However, it’s not split 50/50 so rewards cards sometimes have more victims funding their rewards and other times few victims and it’s effectively just a marketing gimmick.
It’s much more nuanced than that. True a 2% cash back card costs the company 2%.
But a 4% card that gives you credit card points doesn’t cost the card issuer 4%.
If you transfer 4 Amex points for 4 Delta Skymiles. Amex isn’t paying Delta 1 cents per Skymile.
On the other hand, you can then replace a $1 you would spend on Delta with 0.86 Skymiles (ie 1 Skymile is worth 1.4 cents). It’s also not costing Delta 1.4 cents to fly you.
If you use your credit card points to buy on a credit card run travel portal, the credit card company is getting a kickback from airlines and hotels.
It’s turtles all of the way down.
11 replies →
Some businesses do give you the money back though vs raising prices. Gas stations usually have a cheaper price for cash. Same with some restaurants.
https://www.youtube.com/watch?v=akO8qAx4xjY
Rewards is only part of it.
There's also everything required for the credit card company to operate, down to building leases, datacenters, hardware, employee pay. All of that is vastly funded by late payment fees and interest, which are almost exclusively funded by the poor.
At one time I wanted to start an "ice bucket challenge" to start a snowball of rich people donating 100% of their credit card rewards to the poor in some capacity. I'd happily join if I could get the snowball going, but unfortunately, if the snowball doesn't happen with a bunch of multi-millionaires I'll just end up indirectly giving my money (not poor, not rich) to the actually rich and I don't want that either.
Merchants pay 3%. Cardholders borrow from banks, not card payment networks. Rich people can donate to poor people regardless of the credit card situation.
The cost of running the credit card company plus rewards is a lot more than that 3%. Money is fungible. So your rewards comes 85% from interest payments in the case of Capital One or 71% in the case of Chase.
https://www.valuepenguin.com/how-do-credit-card-companies-ma...
> Rich people can donate to poor people regardless of the credit card situation.
While this is true my idea was more of a wide scale protest or behavioral art to make people aware of how bad the credit card system is for the poor. I know it isn't going to solve poverty but it might raise awareness about something not everyone knows about.