Merchants today are free to use cash discounts and credit card surcharging to steer customers to lower-cost payment alternatives, but they actually don’t. A new Boston Fed study found that less than 2 percent of transactions typically receive discounts for using cash or debit cards instead of credit cards. So what’s up with that?
Recent changes in U.S. law and lawsuit settlements have removed network bans on offering price discounts and other incentives designed to help merchants steer customers to less costly payment alternatives. However, only a small fraction of transactions receive a cash or debit card discount, and even fewer are subject to credit card surcharges, new research suggests.
Using the 2012 Diary of Consumer Payment Choice, researchers at the Federal Reserve Bank of Boston found wide discrepancies in merchant-steering activity. Transactions at gasoline stations, for example, were more likely to receive either cash discounts or credit card surcharges than were transactions in other sectors, according to the report “Merchant Steering of Consumer Payment Choice: Evidence from a 2012 Diary Survey.”
“Larger-value transactions were somewhat more likely to receive a discount, although the effect is small when controlling for merchant sector,” the report notes. “There is little evidence that merchants have started taking advantage of their new flexibility to influence consumers’ payment choice by either discounting or surcharging based on the payment method.”
Through the Boston Fed’s Diary, the bank collected data on the dollar value, payment instrument used, and type of expense of each purchase, to complement the information in its Survey of Consumer Payment Choice. The dataset included 14,772 observations on individual transactions conducted by 2,468 individuals, with respondents asked to provide information on every transaction they conducted during a specified three-day period.
Respondents were only asked about any discounts or surcharges related to their in-person and online purchases, not to their bill payments. However, the data do not capture whether the consumer’s decision to use a particular payment method was influenced by the merchant’s pricing policy, by other incentives, or regardless of the merchant’s policy, the report notes.
Freedom to surcharge
The Eastern District Court of New York is considering approval of a 2012 proposal to settle a class-action case between Visa and MasterCard and a large group of U.S. merchants that would allow the retailers to impose surcharges on card transactions. Some states already ban credit card surcharges, and in October a federal judge blocked enforcement of a New York state law that subjects retailers to criminal penalties if they impose surcharges on customers who choose to pay by credit card rather than cash, the report notes.
In an upcoming report that estimates whether merchants can enhance their revenue by offering price discounts to buyers who pay with cash or debit cards instead of credit cards, researchers found the gains to be very small according to the Fed. That’s because, under uniform pricing, any discounts are received by all buyers, including those who would pay with cash or debit cards without the discount, “and the revenue generated from these customers would fall if their price was discounted because of their choice of payment method,” the Fed report notes.
Perhaps merchants generally understand such results would occur. When survey participants were asked whether they received a discount on a transaction specifically for using cash, they said they had for only 1.7 percent of their transactions, the Fed report notes.
“The fraction was higher for less educated and for lower-income consumers, although only the differences across income groups were statistically significant,” the researchers said. “One reason for a higher prevalence of cash discounts among lower-income consumers (those with income below $25K a year) is that these customers are more likely than consumers with higher incomes to conduct a significantly higher fraction of their transactions at gas stations and clothing stores – places where cash discounts are more likely to be offered.”
Debit discounts
Similarly, only 1.8 percent of debit transactions were discounted specifically for using the consumer’s debit card, according to the report. And less-educated consumers were again more likely to receive a discount.
“It is somewhat surprising that cash and debit discounting is similarly frequent (the fraction of discounted debit transactions is not statistically different from the fraction of discounted cash transactions),” the researchers said. “However, debit discounts were recorded in different merchant categories than cash transactions, so it is unlikely that the same merchants offer both types of discounts.”
By transaction category among the broad consumption categories, auto-related and general merchandise transactions had the highest fraction of cash discounts at 6.6 percent and 3.5 percent respectively, according to the report. Broken down finer by merchant category, gasoline stations, which were included in auto, had the highest rate of transactions with cash discounts at 8.7 percent, followed by clothing and accessories stores, which were included in general merchandise, at 7.3 percent.
Moreover, 9.8 percent of repair/maintenance of electronics and household goods transactions were reported to have received a cash discount, according to the report. “We suspect that these were payments to contractors or repairmen at consumers’ homes, but the survey does not provide this level of detail on the location of transactions,” the researchers said.
Other influences
How much consumers spent influenced how much of a discount they received. The median value of a cash transaction where a consumer received a discount was $20, significantly higher than the median value of a cash transaction with no discount, which was $7.49, according to the report.
Because the credit card networks until recently banned merchants from surcharging, surcharging is still very rare and is even less common than discounting for paying with cash, the report notes. Only 1.2 percent of all credit card transactions were reported to have been surcharged or charged other fees specifically because the transaction was conducted using the consumer’s credit card. The youngest and least educated respondents reported the highest fraction of credit card transactions with charges or surcharges.
Looking at the finer merchant breakdown, gas stations and tolls are the two payment categories with relatively high rates of surcharging, at 5.7 and 5.9 percent respectively, according to the Fed report. “Most gas stations post higher prices for credit card purchases than for cash purchases, a practice that can be interpreted either as offering a cash discount or as imposing a credit card surcharge,” the report notes. “However, the actual transactions are distinguishable in retrospect, because only a cash transaction could have received a cash discount, and only a credit card transaction could have been surcharged.”
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