Panel: What’s the Problem, What’s the Solutions, Who Wins, Who Loses (Transcript)

Full Coverage: Debit Stakeholders Face Off at PYMNTS.com Durbin Conference

DAVID EVANS: So I’m going to just turn this over to our moderator for the next panel, who is Doug Elliott. He is a Fellow at the Brookings Institution, has also done quite a bit of work on financial regulation. He’s a former banker, but as I understand it, that has not affected his desire for strong financial regulation. So I’m going to turn it over to Doug, who’s going to introduce the next panel.

DOUG ELLIOTT: OK, fair enough. Good morning, I guess it still is, everyone. We have four distinguished panelists here today. You’ve got their bios in your packet. I’ll just say very briefly, and by the way, we’re going to go through them in alphabetical order, because it seemed the fairest way to do it.

So Adam Levitin is an Associate Professor of Law at Georgetown. He was special counsel for the Congressional Oversight Panel that looked at the TARP.

Ronald Mann is a Professor of Law at Colombia University. He, too, was involved in government. He was an Assistant Solicitor General at the Justice Department some years ago.

James Miller has been very involved in government, a distinguished career, is former director of both the Office of Management of Budget, and Chairman of the FTC, both under Ronald Reagan. And he has a whole passel of things listed in the bio of what he has done since then.

And then Todd Zywicki, last but not least, Professor of Law at George Mason University. And he was also at the FTC at one point, as the director of the Office of Policy Planning.

So without further ado, let me just , we’re going to run through the four of them, then give them each a chance to respond to what they’ve collectively said. I may ask a couple questions, and then we’ll turn it over to the audience.

ADAM LEVITIN: So, first, I think it’s important to make an important disclosure, which is that I have absolutely no financial stake in any of this. And I think that’s important to note, because it’s important to understand what the interests are of people who are talking to about interchange. My sole engagement on interchange was a brief bit of work for CUNA in regard to the Durbin Amendment rulemaking, and basically, I didn’t agree with almost anything on them, so I have no conflicts with this.

I think it’s important to start by framing, thinking about the impact of the Durbin Amendment, just from kind of basic economic terms. And unfortunately, I think we’re often hearing a lot of really bad economics on it. And here’s the problem.

The pitch that’s often given against the Durbin Amendment is, well, if banks are going to make – be able to make less money on debit cards, they’re just going to jack up fees somewhere else. That’s correct, as one possibility, but that’s not the entire universe of possibilities. There are two possibilities, when you regulate one source of income.

One is that there will be a hydraulic effect, and the fees will shift somewhere else, and the other is that the market actually works pretty well, and the result is simply that profits are reduced. And no one seems to be talking about that. You know, there’s – the most likely effect of the Durbin Amendment is simply that we see reduced bank profitability.

And you know, some people don’t like that. I don’t think that – I don’t really care if our banks are more or less profitable. I don’t think that’s a particular policy concern. We want to make sure that they’re solvent, but whether they’re making – you know, their exact return on equity, I don’t think is a real policy concern.

So think about it like this. If you raise – if you limit banks’ revenue from debit interchange, they can either go and try and raise fees somewhere else, or they can cut back on – just live with smaller profits. What happens if they try and raise fees somewhere else?

Well, these are profit maximizing institutions. Presumably, they are already maxed out on their pricing on every one of their other product points. If banks could raise money – raise checking account fees, wouldn’t they have already done it? And they’re not going to leave money on the table. The checking market is – you can’t start raising fees on checking accounts, or you’ll lose market share.

So unless we think that the banks are all leaving money on the table all over, it’s really unlikely that we’re going to see fees start popping up. Really, as long as we have sufficient competition in retail banking, and I think that, you know, even the defendants – opponents of the Durbin Amendment would say, we actually do have some competition there, it’s really unlikely that we’re going to see bank fees popping up.

So let’s – with that, it’s worth talking about, very specifically about, the demise of the free checking account. This is a story that we have heard over and over and over again. If you look at every consumer finance regulatory initiative, the response from the financial services industry has been, well, we’re going to take away your checking account. You’re not going to get a free checking account.

And guess what. That hasn’t happened. Here’s why it hasn’t happened. Because none of us have free checking accounts.

If you look at the largest banks in the US, virtually none of them offer an absolutely free checking account. Instead, it’s free if you maintain a minimum balance, or you perform a minimum number of transactions in a month. But truly free checking is very hard to find at our largest banks. I think PNC is the largest bank that has totally free checking. I know Bank of America does not have it.

And this is before Durbin goes into effect, so we can’t possibly blame Durbin for the loss of free checking if it does occur, because we don’t even have it.

So I think the free checking argument is a little oversold. Similarly, Todd asked in his question earlier, what about, everyone is going to get shifted off to pay day lenders, and pawn shops, and the sleazy underbelly of consumer finance. Well, as interchange fees have been going up, those are industries that have been growing. So why do we think they’re going to grow more rapidly if interchange fees fall? I’m not totally sure how that works.

Second thing I want to talk about is the impact on small banks. I’ve actually studied this, and done a survey of credit unions… on their interchange income. And the situation with small banks is actually a little complicated. That – first of all, let’s remember that when you hear small banks, you have to distinguish between ICBA Bancard, and independent community banks. ICBA Bancard is actually a fairly large bank. The community banks that are – that may have dealings with ICBA are actually much smaller. So just keep that in mind. When you talk about community banks, you have to be careful about who’s talking for them.

In terms of small banks, you know, the Durbin Amendment has two moving parts. Part one is this cap on interchange fees, and part two is dealing with – primarily with routing restrictions.

So the small bank exemption, the $10 billion exemption of consolidated net assets, only applies to part one of the Durbin Amendment. And if there was only part one of the Durbin Amendment that existed, the question would be, simply, are the networks going to have two tier pricing, or one tier pricing. And it’s already apparent that the networks are going to have two tier pricing. Why? Because any network that doesn’t have two tier pricing is going to lose all of the – any market share it has in small banks.

If you’re MasterCard, you can’t afford to do that, because you don’t have enough market share in debit cards to begin with, and you’re certainly not going to let Visa snatch that up. And Visa has already said it’s going to have two tier pricing.

So is there any reason for the networks to have two tier pricing that is lower than it is today? No. There’s absolutely no reason that they’re going to offer small banks lower interchange rates than today. There’s – what do they possibly gain from it?

Then we have to think about what happens with part two of the Durbin Amendment. This is where small banks, I think, do have a reason to be a little concerned. It’s not clear what part two of the Durbin Amendment is going to look like – that we know that there is going to be – the regulatory implementation is going to either have a routing where there have to be two options, a PIN or a signature, or there have to be essentially four options, two signature and two PIN. And depending on what that is, we’ll have greater or lesser competition for routing of transactions.

If we only end up with one signature and one PIN on a card, I think it’s pretty hard to believe that we’re going to see strong downward pressure on interchange fees for the small banks. If we end up with four, it’s a little more questionable. I don’t know how that’s going to play out, but we’re going to have a tug of war between competition for merchants on the routing, and competition for the networks to sign up the small banks.

And actually, that’s really the right balance, I think, where the networks are trying to balance interchange out, and to actually use it for what it should be used for – balancing between merchants and banks, rather than simply using it – having merchants locked in, and using interchange as a way to recruit banks only.

So, I think the small banks – the harms to small banks, I think, are probably overrated, and actually, there could be real benefits to small banks from Durbin, that payment cards have serious economies of scale. And what that means is, it’s hard for small banks to compete in payment cards. That’s why only half of credit unions even offer credit cards. That payment cards are really the story of large banks. And that hurts small banks in general, because it’s just harder – it’s hard – they want to offer the same suite of services as large banks, in order to attract consumers.

If Durbin results in two tier pricing, where the small banks keep more or less the same level of interchange, and the big banks are getting greatly reduced interchange, that really levels the playing field quite a bit for small banks. That gives small banks a serious leg up relative to where they stand now.

So, you know, the situation for small banks is that there’s potentially great benefit from Durbin. There is – you know, it’s not clear. There may be some cost to them. But by and large, I think that there is not – that Durbin is likely to turn out to be a good thing for small banks.

A few minutes? OK. Last thing that I want to talk about is just the question of merchant pass-through.

You know, it’s hard to believe that there won’t be some level of merchant pass-through. Is it going to be 100 cents on the dollar? Probably not. That – and it’s really going to depend on how competitive any particular merchant’s industry is. So is Wal-Mart – are we going to see a pass-through from Wal-Mart? I’ve got to believe so. Are we going to see pass-through from the hotel lobby bar? Maybe not.

And so, it’s also important to remember that pass-through can take lots of different forms. It can simply be a cash pass-through, that you’re going to see the reduced prices. It could also be a cash pass-through in terms of slower price inflation. It could be a pass-through in terms of better service. So Home Depot, for example, might not lower prices, but they might put more people out on the floor, and as they think that’s what works better for their business. It could be having longer hours at stores. It could be any number of possibilities.

And it’s not – I think Dick Schmalensee said, well, gosh, small businesses aren’t likely to change their prices from $0.99 to $0.97 on that bag of chips, and I think that’s exactly right. They’re not going to reprice the bag of chips. They have a much easier way, which is simply, at the register, saying 2% off your total purchase if you pay with debit cards. There’s no reason to do any unit pricing if you can do just a simple pricing at the register, just the way we already deal with sales tax. That gets rid of all the transaction costs, and the pain of having to do the unit pricing differently.

So I think we’re likely to see pass-through. The exact amount, we just don’t know. And this kind of brings me to my concluding thought on the Durbin Amendment.

There are – when looking at any kind of regulation, you have to think of it in terms of type one and type two errors – that you can do too much, and you can do too little. And there are problems with both of those. We know the harms from the current interchange fee system, with anti-competitively set prices that are higher, far higher in the US than anywhere else in the developed world.

We know the harms from that. There might be some unintended consequences from the regulation, but given the harms we know versus the potential harms that we don’t know, I think it’s a pretty – that’s a gamble I think we should be very willing to take. Thank you.

RONALD MANN: So I think I’ll start off by talking about the harms that we know. I guess for me, at the 40,000 foot level, the first thing I see in the Durbin Amendment is the interaction between the two major payment card markets, the debit card market and the credit card market.

Now, I’ve written a lot about both of them, and a lot of my writing about the credit card market has been in the vein of the risks and social costs from excessive use of credit cards. And so what I see is a statute that looks at two markets, one of which has concerns about the external social costs if it’s used too much, and one that everybody thinks is really benign, and which you want to use more. And so Congress steps in on the one that’s working really well, that’s really benign, and show and encourage they want to intervene in that market, and leave the dangerous one alone.

And so that’s my first thought, the first time I talked about this, before the statute had been passed. And so I’m just puzzled at the idea that debit cards are causing such a problem for society, because it’s hard for me to actually see what the problem is with debit cards compared to every other major free form of payment, seems to be more socially costly than debit cards.

The second thing I would say is that Dick Schmalensee’s economics 101 class is clearly a lot more sophisticated than the one that I took when I was in college. But some of the stuff that Adam said reminded me of what I heard when I took economics. And so, his comment is, well, if they increase the – cut away the interchange revenues and let’s leave the money on the table now, there’s no way that the banks should have any way to change the prices for any of their products.

Well, I would have thought that what the Durbin Amendment would do to banks is, it’s going to change their cost curve, change their revenue curve, and shift the location of it, because they’re going to get lower revenues. And if that happens, then they’re going to get lower profits, which should give them incentive to change the efficient price for something, because they have a different revenue curve than they used to have.

And I think the most likely thing, particularly for the small banks, if they have a decline in their revenues, they’re going to have reduced profits. And you can say, well, that’s not of anybody’s social concern, because whether banks make lots of profits or less – low profits, it’s not a public policy issue.

But it seems to me, in the aftermath of the financial crisis, there is a concern, because we are worried about the solvency of banks. We’re worried about maintaining a sufficient number of small banks, that there’s something other than complete concentration of the industry in the 12 banks that are too big to fail. And I think we’re particularly worried about the lending that small banks do, so if those banks have less revenues, and therefore they have less profits, and then they make lower loans, well, if we think that the loans that those banks make are socially valuable, then this is a real concern.

And I think that’s where I come into the concern about small banks. I’m concerned that small banks particularly provide lending that’s really valuable to the rest of us, because of their ability to do relational type loans that are harder for big banks to do.

The second thing I want to talk about is this idea that – I was going to talk about something different, but what Adam said about the small banks was kind of intriguing to me.

You know, I read the comments a little differently than him. He says, well, everybody has promised there was going to be two interchange fees. But when you read the comments of – Visa wrote a really long comment, and Visa says, oh, yeah, we’re going to have a separate rate, but you know, we can absolutely guarantee we’re not going to have a separate rate in July. And what Visa says is, there’s no possible way we’re going to have a separate rate in July. We will have a separate rate someday, sometime – we don’t know when it’s going to be, but it’s not going to be in July.

So when this goes into place in July, there’s not going to be a break for small banks, unless they can manage to get Visa off of all their cards between now and July, and I think that’s kind of hard for them to do. And I don’t know that MasterCard is going to jump into the fray any faster than Visa. They aren’t – they don’t have any technological advantage over Visa in getting this done.

So my guess is, that as long as small banks want to have a Visa or MasterCard brand on their product, in the fall, they’re going to paying the same – getting the same $0.12 rate as the big banks.

The – and I share Adam’s view that it’s kind of hard to predict how the competition will go at the network level. You see some people saying, well, the networks should just compete, they all want to have a high price, then get the relatively small amount of the small banks’ business. On the other hand, they want to have the low price.

I think that the routing restrictions will change the dynamic of that competition, Adam, because the problem is, that if you’re an issuer, you can’t make the same promise you can today. So Citibank can tell Visa, I’ll switch all my cards to Visa, put Visa on all my cards, and I can guarantee that when I do that, I’m going to bring you a big load of transactions, it’s going to be good for your network. And so Visa can say, all right, we’ll give you a high interchange rate for that.

But the problem is, if all the small banks get together and say, OK, we’ll put all of our cards on Visa if you give us a high interchange rate, what VISA knows is, if we give them a high interchange rate, no merchant is ever going to send a card through on that interchange. They’re going to start going to the other one.

So Visa gives them the high rate, then the merchants are going to say, well, good, we’re going to switch off of that, and every card that comes through, because the routing restrictions, we’ll send it through the other network.

So the small banks will get that rate they negotiate for only if they can make sure that every single network they deal with gives them that, and I think that’s hard to do.

And the second thing this plays into is, a variety of other regulatory things have happened the last few years that make it easier for merchants to price cards at the point of sale, and I think Adam and I have both written in the past, there’s some value to having merchants price cards at the point of sale, because it means that the true cost of payment transaction is taken into account.

But I think what that means here is, it’s much easier for merchants to discriminate among cards than it used to be, and I’ll offer three reasons for that. The first one is the DOJ/AmEx settlement is, I think, a big deal. Since that settlement went through, well, I live in New York, and many of the relatively small businesses I go to now have big signs up about what kinds of payment cards they do and don’t want people to use, and there is a significant amount of things that merchants can now do they didn’t used to be able to do. There’s very little left, I think, of honor all cards, and Durbin exacerbates that, because I read to say pretty clearly that merchants can discriminate on the basis of price.

And so, there hasn’t been a lot of that in the past, but in an era where the spread between high cost and low cost is $0.03 to $0.05 or $0.10, that’s one thing. But when the spread between high and low cost is $0.50, I can’t believe that acquirers are not going to make it really easy for merchants to discriminate based on bin numbers, for example. And these bin numbers have high costs, so we will discriminate against them. And they can discriminate them in all sorts of ways.

The only way they can’t discriminate against them is, they can’t surcharge. But of course, surcharge rules may fall themselves. There’s antitrust litigation about the surcharge litigation, and that litigation strikes me as relatively likely to be meritorious, and if it is, then merchants will be able to surcharge.

And so, what I see in the next years for this is a situation where merchants are going to price payment systems at the costs that they have to pay for them. And whether they – and I think they will pass through to consumers, because I think behaviorally, it’s much easier to tell a consumer, I’m charging you $0.50 more because you have an expensive bank. I’ll charge you less if you use something from Big Bank. If you a card from a small bank, I’m going to charge you $0.50 extra, because that’s the expensive bank.

And the more aggressive merchants, like Wal-Mart, I think they’ll just like refuse to take the high cost cards, because they can get away with it. They’ve done that in the past, I think there’s no reason to think that they’ll do it now. I don’t think that the Wal-Mart in the small towns in East Texas where I grew up is going to care a whit about continuing to take cards from the local credit union. They’ll say, too bad, you can pay with cash, or you can go take your account across the street to the Comerica Bank that still has a high interchange rate.

So then the last thing I think I have maybe three minutes left. The last thing I want to talk about –

ELLIOTT: More like two, but go ahead.

MANN: It’s nothing Adam talked about today, but it’s something he’s written about in the past, which is sort of what I thought I was going to talk about, is this idea – because I think it’s the most interesting thing in the area – about the commoditization of processing. And the idea is that credit card processing, debit card processing, really should be a commodity, because it’s just a technological service, like connecting my Wi-Fi phone to whatever wireless network happens to be in the neighborhood, and she doesn’t really care which one it is, as long as she doesn’t have to pay for it.

I think that the debit card network is not really working in the same way. And so I think the idea that it should just be a commodity, and the merchant should always pick the cheapest one, isn’t the right idea. And the reason is because consumers have a lot of reasons, actually, to care which network their cards get processed on.

So I was going to display my particular debit card. I have a Chase debit card, which gives me rewards on Continental Airlines, which – since I come from Texas, it’s a useful airline to have rewards on. But those rewards are getting ready to go away pretty soon, as it happens.

But as long as I had those rewards, before Dodd-Frank was passed, whenever I used my debit card, I always used the Visa one, because I got those rewards. I never wanted to type in my PIN, because I wanted to get those rewards.

Well, after Dodd-Frank, with the routing restrictions, I won’t have that option anymore, because the merchants are always going to go to the PIN networks. It’s going to be cheaper. At least, that’s my guess.

And the second reason why I might care, which is one that is, as far as I can tell, many consumers don’t care so much about, but I care about, is the likelihood that I’ll be exposed to fraud from merchants that cheat me. And different networks have different amounts of protection they provide for that. Some networks provide protection that goes almost all the way to the outer ends of the envelope, even on debit cards.

And the third thing I think that’s most troubling about the commoditization of processing is – looking at my time – it lowers the ability of networks to innovate with respect to authentication. I think the most interesting thing in the payments space right now is new methods of authentication, that use things like near field communication.

And so, I think it’s very difficult, if authentication becomes a commodity, to expect people to continue to invest in these things that consumers like, like contactless payments, and payments through cell phones and the like.

And I’m going to stop there.

ELLIOTT: James Miller?

JAMES MILLER: Thanks, Doug, and good morning, everyone. The issue before us this morning is the extraordinarily and persistently high margins in the debit card transaction area. And the frustrations expressed by merchants, and by a lot of consumers.

Now, how and why has this pattern come about? The reason is, that the major card networks have monopoly power over merchants. Now how do we know this? Number one, merchants all face the same menu of prices and services from the networks. Now, I’ll be the first to say that having the same prices and services is consistent with competition, as well as monopoly.

But bear in mind that the two giants in this industry account for 85% to 90% of all transactions. And that this is a highly regulated industry. And from my days at the FTC, and my work in airlines and other industries, it is in regulated industries that you’re more likely to find market dysfunction.

The second reason is the way Visa and MasterCard came about. They were developed by banks. They were controlled by banks. They even had overlapping directors, or at least, institutions represented on their Board of Directors.

The third reason is that prices have risen without increases in cost. Networks originally, in the old ATM dayshellip; paid merchants to use debit cards. And now, after a series of changes, acquisitions, etc., debit fees have risen dramatically.

The fourth reason is the existence of extensive third degree price discrimination, or what economist – let’s divide the market and charge consumers different prices based on cost, of course, but relative price elasticity.

The cost of authorizing, clearing and settling transactions is virtually the same, whether it’s a big sale or a small sale, whether there’s a sale by this kind of merchant or this kind of merchant. Yet, we know that fees vary wildly, by size of transaction, and by the type of enterprise that is making the sale.

And if you look at them, the higher prices tend to be associated with those consumers, or that class of consumers that have relatively inelastic demands to the average. Again, charging different prices to different consumers, or different classes of consumers, not based on differences in cost, is something they cannot obtain unless there is monopoly power.

The fifth reason is the ubiquitous, and I think, excessive non-price competition. I ask you, yourself, to just think about what you see in this market. The incessant solicitations – I mean, if I see another what’s in your card wallet, what card’s in your wallet commercial, I think I’m going to turn off the television set. Good company – and I don’t mean to be critical of Capital One. But I mean, it’s this sort of thing.

On the other hand, I’m a member of the Board of Governors of the Postal Service, and the mailing – we love the mailing, so – (laughter).

But also, non-price competition that form points, that form a potential rebate, all these kinds of advantages with the superior cards, etc. Without monopoly, the existence of price, non-price competition would be much less. Just as in the case for the airlines. I was reminding Dick Schmalensee that the first time we met was at a conference, and where I was – my paper was about non-price competition in airlines, and if, when you deregulated, you got much lower fares and much less non-price competition in the form of extra flights and half-empty planes.

So, again, without monopoly, you get much less of this. Plainly, the market is monopolistic, and is a candidate for addressing, and it has been addressed by the Durbin Amendment. Let me say, it’s a benefit/cost test, whether the intervention would make things better or worse. Certainly, though, the issue is one that deserves being addressed, and it has been addressed by the Durbin Amendment. Let’s look at the Durbin Amendment.

First, it is narrow in scope. It addresses the use of the networks’ monopoly power. It does not address, for example, prices charged by acquiring banks and processing merchants’ transactions, or fees networks may charge banks for processing transactions. It requires fees to be reasonable and proportional. It requires issuers to offer at least two networks for routing each transaction, and gives merchants the ability to choose the network for each transaction.

Now, finally, a matter of perspective. As a professional economist, for all my professional years, I have been a skeptic of government intervention. Right? And a champion of the efficiency of a competitive marketplace.

But when a market is dysfunctional, either because government is the cause, or because of a market failure, it’s appropriate to address the problem and possible – examine possible remedies, from – of the divergence between what you find, and the competitive norm.

The Durbin Amendment is one such case – I kind of laughed at econometricshellip;

The intervention devised is narrow in scope, has minimal interference to the marketplace, and importantly, let’s not lose sight of the fact that it’s a catalyst for change. It imposes these standards. The market shaking becomes more competitive. And hopefully, within a short period of time – I know Schmalensee thinks it will be longer, but a short period of time, the market will be competitive, and the restraints imposed by Durbin won’t even be constraining. So there’s a real prospect that this Durbin Amendment, regulations pursuant to the Durbin Amendment by the Federal Reserve, will make this market competitive, and benefit consumers and producers and economic efficiency.

Thank you very much.

ELLIOTT: OK, Todd, you’ve been patient.

TOOD ZYWICKI: I’ve been patient. The Durbin Amendment is, in many ways, I think, almost a historic piece of legislation, because usually, when I would come to a conference like this, I would talk about the unintended consequences of legislation. The Durbin Amendment is quite remarkable, though. And the intended implications are so asinine that I’ve never seen anything like it.

I mean, think about it. I – when we get done here today, I could go out, I could get a taxi in front of the hotel, I could go to the airport, I could buy a plane ticket, I could fly to Germany. I could go on vacation for a year. I could book a hotel room, a taxi, get meals, fly back home, take another taxi home, without a penny in my pocket. Without a penny in my pocket. Why is that? Because we now have a global electronic payment system where my debit card is accepted in the entire world, 24 hours a day.

And what Senator Durbin says is, we need more Brinks trucks with armed cars – armed guards driving them around. We need more safes in the backs of stores. We need more people fumbling for their checkbook in the grocery store while the rest of us sit there and try to resist reading, you know, US Magazine in public, in case somebody would see us. (laughter)

I mean, think about that. How asinine – I mean, seriously. Asinine is the only word that you can possibly think about a policy that says we want to have fewer electronic payments, and more cash, and more checks. And if you start thinking about it, we know why electronic payments are good.

So the – they’re beneficial to consumers, right? The convenience, the security, not having to go to the ATM machine, online shopping, everything else that comes along with ubiquitous debit card owners. They’re incredibly valuable to merchants – the speed, the instant payment, and security of the instant payment, as opposed to having to deal with checks. The savings on labor costs, the ability to pay at the pump at a gas station, the ability to check out at the grocery store without having to rely on a sales clerk. The security internally – not having to worry about employees stealing money, that sort of thing. Not having to worry about checks bouncing. The liquidity advantage of consumers being able to shop and buy things when they don’t have enough cash in their pocket, or as increasingly is the case today, merchants won’t take checks, because even merchants realize that checks are a lousy alternative to what’s going on.

It’s beneficial to society. Really, there was a study about the European Union, and what they found was that the introduction of debit cards in the European Union dramatically reduced the usage of low denomination bills. What did not reduce was the usage of high denomination bills. Why is that? Because high denomination bills are used for tax evasion and crime. And so – and that’s one reason that debit cards reduce tax evasion and crime.

And so, if you want to know, everybody talks about how taxi drivers don’t want to take debit cards. They say that they are – credit cards, they say they’re too expensive, but I think there might be an alternative explanation as to why sometimes they don’t want to take them.

Now, the unintended consequences we’ve talked a lot about, and I’m not going to rehash it here, because I don’t think I need to. I would just pose the question, though, as to whether or not somebody who is driven out of the mainstream financial system, or now has to pay a much higher checking account fee, whether they are really better off if they, in the best case scenario, save $0.02 on a piece of lumber at Home Depot, but instead, have to go to a check casher or somebody like that in order to get the money. I think that the welfare implications are really quite profound as a result of that.

One unintended consequence we haven’t really talked about, though, is sure, some people will shift to cash and checks, but one thing that’s completely predictable here, as was mentioned earlier, that people are going to shift to credit cards. Credit cards, for a lot of people, are very close substitutes for debit cards, if you don’t revolve your balance. Credit cards, of course, have higher interchange fees than debit cards. And so I think one of the things that’s going to come as a rude shock to a lot of merchants is when people start using their credit cards instead of debit cards, because credit card rates will still be set by the market.

Now, obviously, that’s pure economic illiteracy, to impose price controls on debit cards and not credit cards, when the substitution is so easy. It’s political genius, though, from the perspective of Senator Durbin though, right? Because as soon as merchants wake up to that, they spent millions already getting the Durbin Amendment. Here comes another couple million in lobbying fees in order to deal with the disaster that now everybody’s going to use credit cards instead of debit cards, which will wipe out, I suspect, some of those savings.

A lot of people argue about the fairness arguments, and I think these are silly arguments also. Cross-subsidies are ubiquitous in the retailing industry. We get free parking, we get – some people use sales clerks when they go in the stores, some don’t. Some people make people wait on them when they check out at the grocery store, others use the self checkout, like I do. Cross-subsidies are ubiquitous.

It has been mentioned, merchants can already give cash discounts if they – but they choose not to. And I think really, the tale – the really – to me, the really telling example is Target. Target is my favorite store in the world, so don’t get me wrong bashing Target. And I have a Target REDcard. What is Target’s REDcard new policy?

Well, Target has their own in-house store, their own in-house credit card operation. If they run their own in-house credit card operation, it’s going to cost more than it would for anything else, because it’s got to deal with the credit risk, they’ve got to deal with the float, and everything else involved in writing a credit operation.

Does credit give – or when somebody presents their Target REDcard, does Target charge them more, because of the cost? No. Does Target charge them even the same price if they use a Target REDcard? No. Target charges them less. Target charges them 5% less, even though it costs more to use the Target REDcard. What’s the point? They’re making cross-subsidies all over the place. It’s a business decision.

And the reason why they take debit cards and the reason they take credit cards is because consumers make them. And it makes no more sense to say, that because they’re forced by competition to do this, we should also pass laws that prohibit friendly, rather than surly, salesclerks, or outlaw free parking, because some people benefit from that and others don’t, when in reality, what it is, is just consumer choice.

So it brings me to the final point that I wanted to talk about, which is the competition effects that both Adam and Jim alluded to. First, obviously, there’s not just two in this space, once you take into accounthellip; PayPal, credit cards, everything else – there’s a lot of competition out here.

Secondly, we know – and I know that Jim knows, that the structure isn’t what matters anymore. It hasn’t mattered for a long time. What matters is anticompetitive outcomes. Yes, two is close to one, but two is close to one doesn’t make two a monopoly any more than Coke and Pepsi are.

So, what’s – it’s also questionable whether or not prices are – have actually been rising. If you look at it, what you see is that interchange fees on signature debit have been falling. Interchange fees on PIN debit have been rising. Overall, it looks like the blended rate of PIN and signature has been about pretty constant over time, and what you’re seeing is convergence between signature and PIN, and they’re used for different transactions. So there’s certainly a lot of transactions that you – at least, in the United States, you can’t use a PIN card for.

So there is a question as to even whether rates are rising, once you look at both of them together.

But there’s an even bigger question, which is, even if prices have been rising to merchants, prices to consumers have been falling. That’s the nature of a two-sided market. You can’t talk about increases in prices to merchants without also talking about decreases in prices to consumers. Now, we could have an interesting intellectual debate about whether the right price for consumers is zero, negative, or whatever. But what is clear is that the prices for consumers for debit cards have been falling, which is, you get free debit cards, or as Ron Mann mentioned, you might even get sort of a negative price if you’re getting benefits or something like that.

And this brings home the final point, which is the bottom line question, which is, are there economic rentshellip; in this market? Show me the rents. In order for there to be an argument that there is a monopoly problem here, there has to be economic rents. For the argument to be that this will only come out of profits, there has to be economic rents. There is no evidence of economic rents. Why? Because even if there is revenues being tendered from the merchants, it’s being dissipated on the consumer side of the market.

You may not like that. You may – for some aesthetic reason, but that’s not really an efficiency argument. That’s not a monopoly argument, if what’s happened is, any possible profits are being competed on the other side of the market, just as it is with any other two-sided market.

And so, unless we have economic rents here, then any decrease in revenues will be passed through to consumers, either by fewer consumers getting access to cards because they’re not profitable, or by prices increasing somewhere else in the system as well.

Thanks.

ELLIOTT: OK. So what we’re going to do is run through the same panelists again, giving them a couple minutes each to response to the collective things they’ve heard, so, Adam?

LEVITIN: So, Todd, again, I guess George Mason should really be paying you more, because the REDcard, I thought was Target’s card for low income consumers who can’t get a regular Target national bank Visa card. And that Target was giving those consumers that card because they want them spending on credit, because they think they’re going to spend more. But you have me backing you for the raise.

In terms of economic rents, let’s just remember, one dollar of interchange does not translate into one dollar in rewards for consumers. If it were dollar for dollar, I would think everything Todd was saying about rents would be right. But it’s a dollar of interchange, it might translate to $0.40 of rewards, or something like that.

So every time, you know – it’s not that the consumer benefit is just balancing out the cost to the merchant that’s going to the banks.

You know, in general, it’s important to note, no one on the merchant side, I think absolutely no one, debates the value of debit. Ronald Mann said it exactly right. There’s social values of payment medium, debit looks great. That point, though, is simply irrelevant to the question of whether to regulate the debit card market. That oil is a great thing in a lot of ways for the economy, but we don’t allow John Rockefeller to have a Standard Oil Trust and set prices anti-competitively. We let OPEC do it, but we – you know, just because a product is good doesn’t mean we have to stand back and say absolutely no regulation, we can have an anti-competitive market.

We also see cross-subsidieshellip; think of a salad bar. You know, the people who have the artichoke hearts are getting subsidized by the people who are only eating, I don’t know, the carrots. But there’s a real difference between that and cross-subsidies in the payment card space, because no one is telling the owner of that restaurant, you have to price the same for artichoke hearts and carrots. No one is telling the store they have to offer free parking.

But someone is telling the merchant, you have to charge the same for a credit card, as for a debit card, and for the high interchange cards, and the low interchange cards. This is Coke telling – saying, you have to set the same price for Pepsi. That’s a very different kind of situation.

Finally, I’m going to say one last thing. I think Ronald’s eager to get the mike here. You know, do consumers care about what debit card network they have? Well, Ronald, I think, articulates the reasons why they might, but consumers don’t choose their debit card network. Your bank chooses your card network, and you get whatever card your bank gives you. You choose your bank, but I don’t know of any consumers choosing their bank based on their bank issuing MasterCard versus Visa, because you don’t know what they’re going to issue. They change.

And even with liability rules, first of all, if you actually look at the rules, there are lots of carve-outs. There are not as – the zero liability policy is zero liability with some fine print. It’s subject to the networks’ interpretation. The consumer has no contractual privity with the network. Visa doesn’t want contacts with consumers. That creates liability.

And the only reason that Visa is able to offer a zero liability policy is because of regulation. If we did not have the federal $50 cap on liability for most unauthorized debit card transactions, we wouldn’t see zero liability policies being offered. It’s easy to go from $50 to zero. To go from unlimited to zero is a very different benefit.

ELLIOTT: Ron?

MANN: All right, the first thing I would say is, I thought for a moment I was going to be on a panel with Todd Zywicki where he agreed with me, but it didn’t happen, so this is probably as close as it’s ever going to get.

And I’ll just respond to three things that Adam just said that I thought were startling. The first thing is, there’s nobody telling merchants that they have to charge the same thing for debit card and for PIN debit and a signature debit and for credit card and debit card. The DOJ/AmEx, you know, they can do anything they want to, to make you use the network they want to do. The only thing that they can’t do right now is, they can’t surcharge, and that’s like short for this world. They can give discounts, they can make you go into different screens, they can make you take your card up to the counter and fill out forms, they can treat you like someone who wants to use a check, they can do anything they want to. And if someone wants to have a high cost payments system, I think merchants should discriminate against them, and they are allowed to do so in every way except for surcharging, and that will be in the way soon.

Well, and I live in a city where the response is, there’s signs in my grocery store telling me what to do and things that they don’t want me to use.

The second thing is, I think that banks really believe that you do, to some degree, pick your bank based on the attributes of the card products they offer. I think that Capital One thinks that people use their credit cards because they have – I think that JPMorgan Chase, to pick a bank that has lots of advertisements where I live, believes that people pick JPMorgan Chase as a bank because of the attributes of their debit cards. That’s the main thing they advertise, is the various things on their debit cards, and they really believe that people pick it because of the attributes of their cards, which are closely related to the networks that the cards have on them.

ELLIOTT: OK, Jim?

MILLER: Thank you. As a card carrying spear carrier of the Todd Zywicki asinine brigade, I wanted to make a couple of comments.

First, I really would take issue with the notion that somehow credit cards, debit cards, are so important, they facilitate – they do all of those wonderful things. That’s not the issue. The proposal is not to take away debit cards. People would still have the facilitation that cards bring.

Second, a theme that underlies a lot of the presentations about this issue, from the banks’ standpoint, is you would think that banks have a revenue target, and so if they lose money that they had anticipated receiving, they’re going to make it up somewhere else. They have to make it up somewhere else. This is the point that Adam raised.

Banks, like any firm, will make adjustments when relative prices change. But they are profit maximizers. If there is money on the table, as Adam said, the banks are going to take it.

Third, on the question of rents, I just looked up – I just got my iPad Yahoo Finance to go through, and I was looking for the cap value of Visa, and I don’t see it readily here. The ATamp;T service was having trouble getting through such a big number, I think. (laughter) But they’re rents.

And the final point is, even without rents, if you have prices improperly set, they are signaling markets to be inefficient, rather than being efficient. And I realize the literature about two-sided markets here, and all of that – it’s very complicated.

But the fact that even if there were no rents in the system, you’re going to have prices that are inefficient if you don’t do something about the way that this market operates.

ZYWICKI: Well, first, obviously, the question we’d want to know about is whether there were rents at the issuer level, I mean, the way in which Visa and MasterCard make their revenues, as Dick Schmalensee described, as sort of something different. So I think the issuer level would be the relevant level.

And maybe they’re making rents, but then it seems like the TARP even made less sense than I thought it did.

Secondly, it’s – merchants have to accept cash, also, right? Legal tender laws require merchants to accept cash. I almost never use cash. I’m subsidizing people who use cash, because they’re the ones taking up the time of the people in the – you know, with the sales clerks that could be helping me, rather than counting their money, giving them change and doing all that sort of stuff.

So – I mean, even at the payment level, we’ve got cross-subsidies with respect to these different sorts of things. Those who use plastic are subsidizing those who use more expensive alternatives, even if it’s just in my time that I’m doing it.

Third, when we’re talking about the competition effects, we really do have to talk about two-sided markets, right? Nobody would say that if a newspaper’s circulation was rising, and so as a result they could charge higher rates to advertisers, because more people are buying the paper, nobody would say that the mere fact that they’re charging more to advertisers would in some way evidence a market failure, right? Because the question would be, sort of, what’s going on in the consumer side as well. You can’t just look at one side of a two-sided market, whether it’s newspapers or whatever the case may be, and just sort of stop there.

The final thing I just wanted to say is just a more general point. Is – the politics of the Durbin Amendment, you know, I just sort of say, it’s just disgusting. Which is to say, this is kind of the legacy of what’s happened over the financial crisis and everything else, which is, it’s just become routine to pick and choose winners and losers based on politics rather than market competition.

So if it’s, you’re a small bank so we like you, and if you’re a big bank, we can soak you, you know, we’ll do that. If it’s, we like merchants because we’ve got a lot of them in our district and we don’t have so many big banks, then we’ll soak – you know, then we like these guys and not those guys, right? Whatever the case may be.

And just from that perspective, it’s just – it’s bad, from a process perspective, the idea of picking winners and losers in a market that’s functioning perfectly fine, picking winners and losers for no other reason, number one, and number two, as I mentioned, the regulatory dialectic that inevitably accompanies price controls, which is trying to figure out what goes in, what stays out. Once you say this is in and that is out, then you’re going to get substitutions to the things you can recover on, and not on others, and then you’ve got to come back, and you’ve got to lobby for changing the definition.

We saw this in Australia, we’re going to see it here as well, which is, this is going to be years of dealing with the unintended consequences of this initial intervention.

ELLIOTT: OK, and I promised Ron 30 seconds, now that his mind is working. (laughter)

MANN: The last thing, it relates to what Todd just said. So Adam and Jim’s comments, well, you know, the government regulates prices all the time, and I’m going to bracket the question on how well that tends to work out, and remember, in my experience, it doesn’t always work out that well.

But what the Federal Reserve believes they’ve been told, and I’m not the one to decide what it is they’re really told, is we’re supposed to pick a price that by definition, doesn’t include the costs of running the system, and we’re also supposed to specifically not put in it the costs for this free protection from fraud that they give the merchants.

And so, the statute might make some sense if they told the Federal Reserve to set an appropriate price as if the market was competitive, but that’s clearly not what the statute tells them to do, at least in the Federal Reserve’s view.

ELLIOTT: OK, let’s cut it there. I have two questions of my own, and then we’ll turn it over to the audience. And let me stress, the first one truly is a genuine question. It’s for Jim.

One thing I found very murky, as people talked about this issue, is how it affects Visa and MasterCard, etc. And clearly, your belief, Jim, is that there’s a monopolistic situation, and that the Durbin Amendment deals with that in some way.

I wonder if you could just clarify a little bit what the interchange – how the interchange fees play out with that monopolistic position.

MILLER: I think the Durbin Amendment probably would result in some diminution of the cap value of the networks, because they are the source of the monopoly power. There would be less non-price competition, more price competition, for those who are signing up for debit cards. The banks may suffer some impairment.

I disagree with the Professor Schmalensee speed test. I think that the evidence is clear to me that the merchant retail industry is far more competitive than certainly the networks are. And the banks, as well. Keep in mind, the banks are heavily regulated. It’s not surprising that you have some of the bank regulators expressing concerns about their industry. And so, I think the effects – I think Schmalensee had a good tableau there. I would disagree with some of the assumptions that he’s making, interpretations of data, and the results that he concludes.

I don’t know – I hope I answered your question.

ELLIOTT: OK, that’s – thank you. And then, my second question is for any or all of you on the panel who want to take it. Another thing that’s been unclear to me is to what extent the interchange fees are a result of the rewards packages. And again, I spend most of my time in New York. You constantly do see the advertising of that. I’m just wondering if you care to talk about that at all.

LEVITIN: Well, just for starters, part of – if you look at an interchange pricing grid, one of the factors on the grid of what the fees are going to be is what levels of rewards are on the cards. More rewards, higher fees. So – and clearly, there’s a relationship there.

And the larger move is simply that rewards are – if you look at credit card advertising, or debit card advertising, what is it that you do – how do you advertise to attract consumers to the product? You advertise, not based on lowest cost, because no one’s charging any – virtually no one is charging any fee for using debit cards. Same thing with just doing the transaction on credit cards.

Instead, the advertising is, rewards, or Capital One has the ability to put your kitten’s face on the front of the card. That’s the way – it’s not price competition, in that sense. It’s rewards competition. And the rewards are really hard to value, but consumers put a lot of – really care about this. Ronald loves his Continental Airline miles.

The result is probably that consumers are chasing after these rewards, which don’t give them a lot of value, but that it’s – I think they’re really more for pulling in consumers from other payment systems. So, from checks, from cash, rather than so much one card – I mean, there was competition between different issuers, but I think it’s – the rewards are often more aimed at pulling them into the card system in the first place.

ELLIOTT: OK, thank you. Anyone have a significantly different view that they want to express?

ZYWICKI: Yeah, I’ve got a different way of just thinking about it, which is – the justification for the Durbin Amendment in the United States makes no economic sense, right? I mean, the whole duopoly argument, it makes – it doesn’t actually make economic sense, and the reason is because it’s a two-sided market.

There is a theoretical argument that could be made, and it was the one that was made in Australia, which is, the argument that was made in Australia was that the price to consumers is too low – that because of rewards, you get negative pricing, and consumers overuse this particular payment mechanism, and they overuse it inefficiently.

That is a theoretically interesting argument –

LEVITIN: But that argument there was made for credit cards, not debit cards.

ZYWICKI: Right, for credit cards, right. For credit cards.

LEVITIN: So one of the two of us thought that argument might have some merit for credit cards.

ZYWICKI: Right. Right, right. So but it is a theoretically possible argument that the impact, by allowing – by competition being generated by consumers, consumers get too low of a price, and they overuse this product, rewards being the way in which they might get a negative price. That’s theoretically wide open, though, right? Nobody knows whether or not the price is too high, too low, or just right, number one. Number two, markets in which you want to argue that low prices for consumers is evidence of market failure are anomalous markets. It’s possible, but not the case.

So that’s the theoretical argument. The empirical argument is whether or not – whether it’s established empirically that that is a problem, as opposed to theoretically. And secondly, whether or not – and there’s absolutely no evidence that simply a blunderbuss price control intervention like the Durbin Amendment could possibly make things better.

When the GAO reviewed these possibilities, they just threw that one aside, because it seemed like such a silly idea, and they actually have considered some of the more semi-sensible ideas.

But that’s sort of the point. That’s the link between rewards, I think, is you see rewards as negative prices for consumers, then you might have some issue that might arise from that, but it’s a completely different issue than the one we’ve been talking about.

ELLIOTT: OK, and I’m sorry to be unfair, but let me cut it there, because I don’t want to monopolize it with my questions. Let me take some questions from the audience.

MILLER: May I have one?

ELLIOTT: Oh, sure.

MILLER: Doug, your question has the causation reversed.

ELLIOTT: OK.

MILLER: You don’t have high fees because you have rewards. You have all these reward programs because you have high fees. And breaking up the monopoly will result in lower prices for consumers. Consumers will lose some of these rewards that they have to figure out, and spend a lot of time going through, and the red tape, and they’ll get lower prices.

ELLIOTT: OK, thank you. Sir?

JIM DELONG: I’m Jim DeLong with the Convergence Law Institute. One issue that Mr. Mann has touched on, but I’d like to hear the rest of you comment on it too, is that Durbin has an exemption here for – to the fee cap, for expenses of preventing fraud. And the Fed punted on that completely, as far as I can tell, saying, well, we’re going to have to think about this a while longer.

I can’t even – you know, on top of this problem of assessing the variable costs or the marginal costs on the fee cap, I can’t figure out any way to go out figuring out what of these network costs are attributable to preventing fraud?

And so the question I have is, what do you guys think about this? How is the Fed going to approach this?

MANN: And so, I think they’re in a box, because I think what they contemplate doing is, having a regulationhellip; in July that gives nothing for fraud costs, which I think is directly contrary to the statute. And so, you know, I think that’s a legally invalid regulation if they set it up and they don’t give some compensation for fraud. And one possibility is, they’re going to write something in the last part of April that says we don’t think that there’s any compensable fraud costs, because the issuers aren’t spending any money on preventing fraud, and we think there’s not enough fraud. I don’t think that’s what the Fed is likely to say.

I mean, my take on the fraud issue, which is very different from Adam’s, I think, is that the rate of payment card fraud in the United States, historically, is lower than anyplace else on the planet. The reason we don’t have chip and pin cards, like they do in lots of other countries, is because we have not historically needed them like other countries have, because we have a sufficient infrastructure, because people have invested in technology to have very low fraud rates. I mean, that’s one of the things the industry has done well. You can complain about some things, but they’ve done a really good job of limiting fraud.

And so, again –

ELLIOTT: Let’s cut it there, just –

ZYWICKI: I just have one point, which is, it really is a marginal question, right? Which is, if you go out to VISA’s data processing system, you’ve got questions like, do you store backup data onsite, or do you ship it out to somebody else to store? When – every data breach that I’m aware of has been because tapes and that sort of thing have been shipped offsite and stored somewhere else.

Let me illustrate the point, which is, there are marginal choices that could be made between different levels of security and that sort of thing in fraud protection. I’ll strike my example, which apparently I was wrong about, but you can see the logic on which there would be marginal investments on which people might make decisions that might impact one way or another. And I don’t know how the Fed could possibly take that into account in their rulemaking. By July, yeah. That’s right.

LEVITIN: Just very briefly – just one sentence on this. My read of the amendment is actually that it’s supposed to be an issuer by issuer variance that’s granted, in which case, you don’t need to have a blanket rule in place in July. It’s rather, you need a process for evaluating issuer applications for variances.

ELLIOTT: OK, sir?

JOHN BUHRMASTER: Yes, my name is John Buhrmaster. I’m President of First National Bank of Scotia, New York, a community bank. And I have a question for Jim, but I do want to respond that Adam said earlier, and not because you’re from Georgetown and I’m from Syracuse. (laughter)

But you had mentioned ICBA, and ICBA Bancard. I am currently chairman, the volunteer chairman of ICBA Bancard. ICBA is made up of community banks from around the country who all speak to the same voice, we have the same business models. We do not have the same business model as Capital One or Bank of America. We have a similar business model.

One of the things that organization does, as well as the credit union organizations, is we have a service subsidiary that aggregates our members’ buying power to buy credit card services, securities, mortgage, insurance, even CRA products. ICBA Bancard is one of those items. My bank could not be in the credit card business without ICBA Bancard. ICBA Bancard negotiates with the largest vendors, and gets us a price equivalent to what a bank that combines our aggregate 2000 banks would get. There’s no way I could compete with that. That’s how I have a credit card program.

But my question for Jim is that you pointed out that there is a difference in the amount of interchange that you get from different types of transactions. And you talk about the incremental cost of that transaction. But one thing I haven’t heard mentioned here today, at least not very much, is one of the primary reasons that debit card was originated was the check guarantee card. It’s that transfer of risk from the merchant to the issuer.

Is there an economic model out there that would support the pricing of risk by a flat fee, no matter what the size of the transaction, versus a percentage fee, which it is right now?

MILLER: Well, you could imagine a fee for risk that would vary by the size of the transaction. The risk, though, with PIN debt is very, very low, because you have the amount deducted from your account immediately. I mean, it’s not a question to the bank whether you will be paying back. They already have your money. But I could see that.

And Adam’s – the initial point is that we haven’t talked about today, is that my reading of Durbin Amendment is that it does task the Federal Reserve with coming up with some mechanism to cover fraud. And maybe, Adam, you’re correct, or Ron, you may be correct on that. I mean, that’s something for the Federal Reserve to work through.

But I mean, I could see a fairly complicated fraud pricing provision or allowance that’s not just a flat fee.

MANN: I’ll just interject two things about that –

ELLIOTT: Adam, will you go in front of –

LEVITIN: Oh, just very briefly. If you want to compare debit – I mean, I think Jim made the point well. If you want to compare debit with checks, it’s just – you can’t look at the check guarantee fees now and say, well, that is the appropriate fraud costs that you incorporated in Durbin. Because first of all, the products, as Jim noted, are different. There’s a payment risk on checks that doesn’t exist with a – certainly with a PIN debit transaction, we have basically a real time authorization. And secondly, the populations that are using checks and using debit cards are different, and you get sort of an adverse selection problem going on right now with checks, which increases the costs of check guarantee fees.

MANN: I’ll just say one thing about what Jim said, about the fraud thing. I’m the person that says fraud is everywhere, that’s because I study it. It’s actually not true that there almost no risk of fraud for PIN debit transactions. There’s two problems for fraud with PIN debit transactions. One of them is if the transaction is unauthorized. Just because the bank pays it doesn’t mean it’s not fraudulent. It just means that the person using the card wasn’t the right person. And that used to be extremely rare, but it’s not extremely rare anymore.

And the second thing is, because the various processing things that seem like black magic to me, if you talk to people that run banks, they will tell you that transactions that come through the network that have PINs on them clear against the accounts, at times there’s no money in the account. There’s no way that you can actually eradicate overdrafts that are not intended to be granted by the banks. And I don’t really understand why that is but… it happens. And to people who are bankeshellip; It’s not as simple as it seems to simply decline debit card transactions because there’s no money there.

ELLIOTT: I’m sorry, so – just so we can get some more questions here.

DAVE WILLIS: Hi. This is a question/slash/comment. I’m Dave Willis. I’m with Navy Federal Credit Union. We’re one of the three credit unions that are covered by this rule, although we agree that all credit unions are going to be covered by this rule, because that’s the way the market works.

I want to point out some things. The panel, some of the members have been talking about – you know, is this a monopoly. We’re not here to discuss antitrust. That’s for the courts to decide. We’re not here to discuss credit cards, we’re just here to discuss debit cards. And with regard to the networks, interchanges paid to financial institutions, it’s not paid to the networks. So let’s not talk about the networks. This is going to affect financial institutions – small banks, small credit unions, big banks, big credit unions. There’s a whole lot of different folks that are affected by this rule, and let’s remember that.

So I also want to point out that when it comes to the discussion about things like credit card rewards, that there is no different interchange rate for debit cards when it comes to rewards. If an institution offers debit card rewards, it’s because it comes out of the flat rate. Whereas in the credit card market, there are different rates for different types of reward propositions.

So let’s be careful when we mix these apples and oranges together, OK?

So my question is, this conference is, is the Durbin regulation reasonable and proportional? And I’d like to discuss that, knowing that the Fed’s – by the Fed’s own admission, that not all costs are covered, that actually, you could lose money on every transaction that comes across the network. By their own admission, network fees are currently not included – that’s certainly an incremental cost, as well as fraud losses, fraud prevention. So I’d like the panel to address those points.

ELLIOTT: Sure. You all don’t seem shy. Anyone want to pick that one up?

MANN: Well, I’m not sure what the question is. I think that the Fed proposal suggests that they are including all the costs, and I think that the read the statute to justify not including all the costs. I think that’s how they read the statute. And obviously, there’s some filings that have been presented to them that suggest the statute could be read in a way to justify including all the costs, but they didn’t see it that way.

I mean, I think they read the statute to say, we’re going to include some of the costs, but we picked out the ones they want to include.

WILLIS: Well, is it reasonable – my real question, is it reasonable and proportional, given that some incremental costs, regardless of whether profit or anything else should be includedhellip;

MANN: Well, I think that’s a question for the lawyers.

WILLIS: I’d like to hear what the panel thinks about that. That’s kind of what the conference is all about.

MANN: Well, I think if they adopt a rule that specifically does not include any more costs than what they do now, I think the rule will be challenged as being an inappropriate exercise of administrative discussion under the APA. I think they’ll get sued for that. And I think they expect to get sued for that, and I think they’ll get sued no matter what they do, so if the goal is to write a rule that they’ll never get sued on, their only hope is to get counsel to tell them they don’t have to write the rule.

ZYWICKI: I’ll just add one word on this, because it was also on my last question, which is, the whole premise of the Durbin Amendment is that debit cards are functionally similar to checks, for reasons we’ve been talking about, and as Adam very eloquently described, debit cards are not functionally similar to checks, period. End of sentence. They are completely different products, and to say they’re functionally similar, I think is not – I think is an erroneous premise that underlies the whole law.

ELLIOTT: OK. David tells me to do one more question, and since we have a fellow standing there at the mike, why don’t we go with that?

EVANS: A short question, followed by a short answer.

DAVID MORRISON: I’m David Morrison with Credit Union Times. The first question – or the only question, I guess, is that – shouldn’t the Durbin Amendment and the regulation flowing from it have done something to evaluate the benefits of debit card usage as well as the – not just look at the costs? Because it seems like – that only one half of the transaction between issuing card issuers and merchants is being discussed. The cost of the darn things, merchants get a whole lot of benefits out of these cards, that it seems like they should be willing to pay for, and a reasonable and proportional cost for those benefits would include looking at them. And I don’t think the Fed did that, I don’t think anybody else has done that. And I think it would be the job of economists to do that.

MANN: I think the statute would have been a lot better if they told the Fed to set a reasonable price.

ZYWICKI: And one of the reasons – well, obviously, the merchants just want the benefits and don’t have to pay for it, period.

MANN: Right.

MILLER: In a competitive market, price is based on cost, not so-called value. And it’s never fair to pay a monopoly price for anything. Water is essential to life, but you wouldn’t say, because water is essential to life, that the government ought to charge you, monopolize the water and charge you $17 a glass.

LEVITIN: The Durbin Amendment is a legislative response to an antitrust problem. And accordingly, there’s not any reason to be looking at the benefits of debit cards. Everyone accepts that debit cards have benefits. It’s simply figuring out a way to make the debit market as efficient as possible. Whether the Durbin Amendment is the very best way to do that, no, I don’t think so. But does it certainly improve the market? Without a question.

ELLIOTT: All right, well, let’s thank our great panel.

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