Credit Cards – Page 4 – Digital Finance Analytics (DFA) Blog

Credit Cards Take A Christmas Hit

Christmas is a time when our credit cards get a workout. Data from the RBA shows a significant hike in the number of transactions leading up to the holidays. We marked these in yellow. But it is worth noting that whilst credit limits are rising, revolving balances are not.

But card use varies by our household segments as used in our surveys.

Using data from our household surveys we find that the relative proportion of households with credit cards varies considerably. Almost all younger households have cards, as do more affluent households. Disadvantaged households are less likely to had access to a credit card.

If we then overlay the average transaction turnover and revolving balances these also vary by segment. For examples, wealthy seniors use their cards and have high turnover balances, but revolve very little. On the other hand, exclusive professionals use their cards, and revolve significantly.

Younger families are also using their cards, but the average balance and turnover is lower.

This once again highlights the importance of customer segmentation within financial services. You can read more about our analysis of credit card economics here.

Time To Read Your Credit Card Small Print

Our research shows that households do not know what they are paying in fees and charges on their credit cards, nor the value of “rewards” on these cards. This is over and above transaction surcharging which has been subject of recent regulatory review. The RBA says in 2015, households paid $1.5 billion in card fees, up 6.6% from the previous year.

Bank-Fees-2016-2

In fact there have been a number of changes to the terms and conditions of credit cards from several of the large providers. This is in response to recent changes to payment regulation, and banks seeking to capture more value from non-revolving card holders.

It is worth checking the true value of rewards points, which we think are being devalued (the so called earn and burn rate) means you spend more for less benefit. In addition, fees on reward cards have been rising steadily.

In addition, there are a range of other potential transaction fees. For example, an Australian dollar transactions from overseas merchants now carries a fee, by for example the CBA. Whilst foreign currency transactions did cop a charge, Australian dollar transactions did not. The CBA says:

We charge you an international transaction fee when you make a purchase or obtain a cash advance (whether in a foreign currency or Australian dollars):

While overseas; or In Australia (for example online) where there is an overseas connection, as the merchant, or the financial institution or entity processing the transaction, is located overseas. The international transaction fee for these transactions is:

Transactions converted by MasterCard® or Visa – 3.00%

Transactions converted by American Express® – 2.00% (plus a currency conversion factor of 1.50% which is included in the converted transaction amount)

Transactions in Australian dollars but with an overseas connection – 3.00%

In some cases, overseas merchants may allow you to pay in Australian dollars, e.g. when you’re shopping online or over the phone. This is still considered an international transaction because your transaction is processed overseas.

Note: Even though a merchant has a website address ending in ‘.com.au’ and displays prices in Australian dollars, they may still be located overseas or otherwise choose to process their credit card payments outside of Australia. It’s best to check with the merchant before you pay if you are unsure.

Depending on your card use – if you revolve and pay interest, then the interest charges will swamp most other charges, – it would be worth looking at some of the non-reward, no fee cards which are available, because these sneaky little fees soon add up.

We think there is a case to make the disclosure of fees on credit cards clearer, and for consumers to reconsider whether reward schemes attached to cards are worth having at all. You can compare cards here.

The New Regulatory Framework for Surcharging of Card Payments

“Where consumers see a card surcharge, they should check to see what non-surcharged methods of payment are available. Before paying a surcharge, they should think about whether any benefits from using that payment method outweigh the cost of the surcharge; if not they should consider switching to an alternative payment method. This will not only save them money, it will help keep costs down for businesses and will put pressure on card schemes to keep their charges low”. This was Tony Richards, Head of Payments Policy Department RBA, conclusion when he spoke at the 26th Annual Credit Law Conference and discussed the revised card payment surcharging regime.

In his speech he started by looking at data on average merchant service fees (or MSFs) show that there are very large differences in the cost of different card systems for merchants. These costs ranged from an average of just 0.14 per cent of transaction value for eftpos in the June quarter to about 2 per cent of transaction value for Diners Club. For MasterCard and Visa transactions, the average cost to merchants of debit cards was 0.55 per cent of transaction value, while the average cost of credit card transactions was 0.81 per cent. The average cost of American Express cards was 1.66 per cent of transaction value.

But these averages mask significant variation across different merchants. Many merchants pay up to 1–1½ per cent on average for MasterCard and Visa credit card transactions. And it is not unusual for merchants to pay 2–3 per cent to receive an American Express card payment.

Then he discussed five key elements of the new framework contained in the Bank’s new surcharging standard and the Government’s amendments to the Competition and Consumer Act.

First, the new framework preserves the right of merchants to surcharge for more expensive cards, but it does not require them to do so. Under the framework, a merchant that decides to surcharge a particular type of card may not surcharge above their average cost of acceptance for that card type.

For example, if on average it costs a merchant 1 per cent of the value of a transaction to receive a Visa credit card payment, the merchant may apply a surcharge of up to 1 per cent for that type of card. The merchant would not, however, be able to apply the same 1 per cent surcharge if the customer chose instead to pay with a debit card that was less costly to the merchant.

Second, the definition of card acceptance costs that can be included in a card surcharge has been narrowed. Acceptable costs will be limited to fees paid to the merchant’s card acquirer (or other payments facilitator) and a limited number of other documented costs paid to third parties for services directly related to accepting the particular type of card. A merchant’s internal costs cannot be included in a surcharge.

Third, a merchant that wishes to surcharge will typically have to do so in percentage terms rather than as a fixed-dollar amount. In the airline industry, this means that surcharges on lower-value airfares have been reduced significantly.

Fourth, the Government has given the ACCC investigation and enforcement powers over cases of possible excessive surcharging.

The Bank’s standard and the ACCC’s enforcement powers apply to payment surcharges in six card systems that have been designated by the Reserve Bank – eftpos, the MasterCard debit and credit systems, Visa’s debit and credit systems, and the American Express companion card system. However, Reserve Bank staff have been in discussions with other card systems that have not been designated and we expect that those systems will all be including conditions in their merchant agreements that are similar to the limits on surcharges under the Bank’s standard. This will mean that merchants that wish to surcharge on payments in these other systems will be contractually bound to similar surcharging caps to those that apply to the regulated systems.

Fifth, surcharging in the taxi industry – which is subject to significant regulation in many other aspects – will remain the responsibility of state taxi regulators. Until recently, surcharges of 10 per cent were typical in that industry. However, authorities in five of the eight states and territories have now taken decisions to limit surcharges to no more than 5 per cent. As new payment methods and technologies emerge, the Bank expects that it will be appropriate for caps on surcharges to be reduced below 5 per cent. The Government and the Bank will continue to monitor developments in the taxi industry with a view to assessing whether further measures are appropriate.

The first stage of implementation of the surcharging reforms took effect on 1 September and covers surcharging of card payments by large merchants. Merchants are defined as large if they meet certain tests in terms of their consolidated turnover, balance-sheet size or number of employees. The framework will take effect for other, smaller merchants in September 2017.

There are a few reasons for the delayed implementation for smaller merchants. Most importantly, these merchants are less likely to have a detailed understanding of their payment costs. Since the new framework involves enforcement by the ACCC, the Bank considered it important to ensure that such merchants have simple, easy-to-understand monthly and annual statements that show their average payment costs for each of the card systems subject to the Bank’s standard. Accordingly, as part of the new regulatory framework, acquirers and other payment providers must provide merchants with such statements by mid 2017. All merchants will be required to comply with the new surcharging framework from September 2017 and ACCC enforcement will apply also to smaller merchants from that point.

Given the new framework has only been effective for two weeks, it is too early to be definitive about how the new surcharging regime applying to large merchants has affected the surcharging behaviour of those merchants. However, based on some corporate announcements and an initial survey of some websites, I think it is possible to make six initial observations.

First, and most prominently, the major domestic airlines have moved away from fixed-dollar surcharges to percentage-based surcharging. This will result in a very significant reduction in surcharges payable on lower-value airfares. The two full-service airlines have introduced surcharges for on-line payments of 1.3 per cent for credit cards and 0.6 per cent for debit cards. A passenger wishing to pay for a $100 domestic airfare by card will now pay a surcharge of $1.30 or 60 cents, as opposed to a surcharge of up to $7-8 previously. Surcharges on some high-value airfares may rise with the shift to percentage-based surcharges. However, the airlines have implemented caps on surcharges of $11 for domestic fares and $70 for international fares, indicating that they continue to prefer to not pass on their full payment costs on purchases of more expensive tickets.

Second, there does not appear to have been any increase in the prevalence of surcharging. It remains the case that companies that face relatively low merchant service fees are tending not to surcharge, while those businesses which receive a high proportion of expensive cards are more likely to surcharge.

Third, the surcharge rates for credit cards that have been announced show significant variation, which is consistent with other evidence that there is a lot of variation in the merchant service fees faced by different businesses. In the case of the Qantas group, for example, Qantas is charging a credit card surcharge of 1.3 per cent while Jetstar – which presumably receives fewer high-cost cards – is charging a surcharge of 1.06 per cent.

Fourth, as required by the Australian Consumer Law, merchants that have announced changes to their surcharges are continuing to offer non-surcharged means of payment. In the face-to-face environment, this typically includes cash, eftpos and sometimes MasterCard and Visa debit cards. In the on-line environment, it typically includes payments via BPAY, POLi or direct debit, which are typically low-cost for merchants.

Fifth, while there are still many instances of ‘blended’ credit card surcharges, there are some early signs of greater discrimination in surcharges. Blending refers to the practice of charging the same surcharge across a number of systems regardless of their cost – say across the MasterCard, Visa and American Express credit systems.

The new framework allows merchants to set the same surcharge for a number of different payment systems, provided that the surcharge is no greater than the average cost of acceptance of the lowest-cost of those systems. For example, if a merchant accepts cards from two credit card systems, which have average costs of acceptance of 1 per cent and 1.5 per cent, it can set separate surcharges of up to 1 per cent and 1.5 per cent, respectively. If it wishes to set a single surcharge, it cannot average the costs and set a 1.25 per cent surcharge for both systems, since it would be surcharging one of those systems excessively. In this example, the maximum common surcharge that could be charged would be 1 per cent.

While I think we are already seeing some reduction in the practice of blended surcharging, it is likely that we will see this trend continue from mid 2017 when new rules on the interchange fees exchanged between banks for card transactions take effect. Without wishing to go into details, the Bank will for the first time be placing a cap on the maximum interchange fee that can be paid on any card transaction. This will significantly reduce the cost of MasterCard and Visa payments for those merchants which currently receive a high proportion of high-interchange cards.

The sixth change has been in the event ticketing industry, where it was previously very difficult to avoid a card surcharge in the on-line environment. Given this, the ACCC had already required the major ticketing companies to show their surcharges as a separate component within their headline, up-front pricing. Effective 1 September, the two major companies have now removed their card surcharges and are now quoting a simple, single price for all payment methods.

Westpac refunds $20 million in credit card foreign transaction fees

ASIC says Westpac Banking Corporation (Westpac) has recently refunded approximately $20 million to around 820,000 customers for not clearly disclosing the types of credit card transactions that attract foreign transaction fees.

Following a customer complaint, Westpac notified ASIC that customers may have been incorrectly charged foreign transaction fees for Australian dollar transactions processed by overseas merchants. Because Westpac’s terms and conditions did not clearly state that foreign transaction fees would be charged for such Australian dollar transactions, Westpac commenced a process to identify impacted customers and provide refunds with interest.

Westpac has updated its disclosure to clarify that Australian dollar transactions – when they are processed by overseas merchants – will also attract a foreign transaction fee.

ASIC Deputy Chairman Peter Kell said, ‘It is essential for consumers to know when fees will be charged, so that they can make an informed decision when using financial products and services.’

ASIC acknowledges the cooperative approach taken by Westpac in its handling of this matter, and its appropriate reporting of the matter to ASIC.

ASIC warning to consumers

ASIC is also issuing a warning to consumers about unanticipated credit card foreign transaction fees.

It may come as a surprise to consumers that transactions made in Australian dollars with overseas merchants, or processed by a business outside Australia, can attract a foreign transaction fee. This may even occur where the merchant’s website has an Australian address (domain name) or where a foreign business advertises and invoices prices in Australian dollars.

‘It may not always be clear to the consumer that the merchant or entity is located outside Australia, particularly in an online environment where the website uses an Australian domain name,’ said ASIC Deputy Chairman Peter Kell. ‘We urge consumers to check whether the transaction they make is with an overseas-based merchant or processed outside Australia, especially when they shop online.

‘Equally, credit card issuers need to ensure that the disclosure of such fees is clear so customers understand the fees that they are charged when using their cards.’

‘Not all cards impose foreign transaction fees. For consumers who make frequent overseas purchases, it is worth shopping around for a card that offers no foreign transaction fees,’ he said.

ASIC is working with other industry participants on this issue, including by requiring improved disclosure by a number of credit card issuers.

Overseas merchants who display prices to Australian consumers in Australian dollars will usually give consumers the choice to pay in the applicable foreign currency or in the Australian dollar equivalent, as converted by the merchant at their own exchange rate (using a process known as ‘dynamic currency conversion’). As consumers may be unable to avoid paying international transaction fees for Australian dollar transactions with overseas merchants, consumers may wish to pay in the applicable foreign currency if they expect the exchange rate to be applied by their card issuer to be more competitive than the exchange rate used by the merchant.

Customers with queries or concerns about the charging of credit card foreign transaction fees should contact their credit card issuer. ASIC has published specific information and guidance for consumers about the charging of international transaction fees by credit card issuers on its MoneySmart website.

Background

A foreign transaction fee (also known as an international transaction fee) is a fee charged by many credit card providers for transactions – including purchases and cash advances:

that are converted from a foreign currency to the Australian dollar; or

that are made in Australian dollars with merchants and financial institutions located overseas; or

that are made in Australian dollars (or other currencies) that are processed outside Australia.

A foreign transaction fee is generally calculated as a percentage of the Australian dollar value of the transaction (typically up to 3.5%). Credit card schemes (such as Visa, MasterCard and American Express) have different rules about foreign transaction fees and the percentage fees will vary depending on the card scheme.

Debit cards may also attract a foreign transaction fee, and consumers are encouraged to check the terms and conditions to find out whether this fee will be imposed by debit card issuers.

From March 2014, Westpac’s credit card terms and conditions did not clearly state that a ‘foreign transaction fee’ would be charged for transactions:

for ‘card-not-present’ transactions in Australian dollars with merchants located overseas;

in Australian dollars with financial institutions located overseas; or

in Australian dollars (or any other currency) that is processed by an entity outside Australia (together referred to as Overseas Transactions in Australian Dollars).

This may have led customers to believe that a foreign transaction fee would be charged only when a transaction was made in a foreign currency that required a conversion into Australian dollars at the time of the transaction.

Affected customers have been provided compensation, including:

a refund of the foreign transaction fee charged on the transaction;

where any credit card interest was charged on the foreign transaction fee amount, a refund of the interest component; and

an additional interest payment on the refund amount from the date the foreign transaction fee was charged until the date of refund.

ANZ wins class action on fees, but we still don’t know the real cost of late payments

From The Conversation.

A six year legal battle came to an end yesterday when the High Court ruled in favour of ANZ Bank, finding by a 4-1 majority that the bank could enforce late payment fees on credit cards.

The lead plaintiff in the class action was Mr Paciocco, who opened two MasterCard accounts with the bank. One card had a credit limit of A$18,000 the other had a A$4,000 limit.

Mr Paciocco was late in meeting his monthly repayments on a number of occasions, and was required to pay late payment fees. The fee was initially $35, with the bank later reducing it to $20. Mr Paciocco was not the only ANZ customer who was late in repaying their credit card debts. During the financial year ended September 2009 the bank had around two million consumer credit card accounts. It charged late payment fees on around 2.4 million occasions, for which it received $75 million.

Mr Paciocco claimed the bank could not enforce the late payment fees because they were “penalties”. Australia’s common law will not allow a party to a contract to enforce a penalty amount under a contract. The question the High Court grappled with was what precisely did the common law understand a penalty to be. Rather annoyingly the Court has returned to the bad habit of each of the five judges hearing the case writing a separate decision. Each judge’s decision covers much of the same ground as the others, with subtle differences here and there. This makes it rather difficult to discern any coherent majority view on any particular issue.

In any event, the Court appeared to agree that a “fee” amounts to being a penalty if it is in the nature of a punishment for non-observance of the credit card contract. That is, it is a penalty if the fee is out of all proportion to the costs or loss caused to the bank by the customer’s late repayment. One view was that a fee becomes a penalty if it is extravagant, exorbitant or unconscionable. That definition sets a very high hurdle for bank customers to surmount when trying to prove a fee is a penalty.

Having decided what a penalty is, the judges were required to determine whether the fee/penalty charged was out of all proportion to the resulting losses caused to the bank. ANZ admitted the late payment fees were not a genuine pre-estimate of the losses it suffered as a result of the late repayment. The Court, however, found the mere fact there was no pre-estimate of the losses to the bank did not automatically mean it was a penalty.

Experts differ

Two expert witnesses gave evidence before the lower courts about the costs to the bank of a customer making a late repayment. One witness estimated the average cost to be $2.60. The other expert took into account a range of factors including the “loss provision costs, regulatory capital costs and collection costs” to the bank, and arrived at a much higher figure.

The Court then debated which of the experts had adopted the correct methodology. The majority found in favour of the second witness, the minority judge found the correct figure was closer to that calculated by the first witness, and therefore found the late repayment fee to be a penalty.

The majority also considered whether the bank had acted unconscionably or unjustly under the provisions of relevant legislation, and concluded that the bank had not breached the legislation.

The case confirms that a person alleging a requirement under a contract to make a certain payment amounts to a penalty must jump a very high bar. He or she must establish that the amount being imposed is extravagant, exorbitant or unconscionable.

The case also illustrates the difficulty in calculating the costs to the bank of customers making late repayments. The onus is on the customer to show the bank is acting extravagantly. It is somewhat disappointing for the many bank customers who are subjected to late payment fees that the Court favoured a costing methodology that itself was arguably extravagant and exorbitant.

Author: Justin Malbon, Professor of Law, Monash University

Charging for credit and debit card use may become the norm under new rules

From The Conversation.

New standards on how much businesses can surcharge their customers for credit or debit card purchases start in September. However, it’s not clear how the rules will be policed and whether this will lead to all businesses enforcing a surcharge, rather than just those who choose to.

The Reserve Bank of Australia (RBA) has revised the regulations, aiming to limit the amount merchants can surcharge customers for paying by credit or debit cards. The new rules will initially apply to large merchants, defined as those employing over 50 staff, as these businesses are seen to be overcharging the most.

Businesses have been able to add on surcharges to these type of purchases in Australia since January 2003. This was part of RBA regulatory interventions in the first place, as it originally allowed merchants to surcharge in order to recover the costs of accepting card payments. The surcharges can be ad valorem (in proportion to the value of the transaction) or a fixed dollar amount.

A current example is that taxi fares using a Cabcharge terminal, whether they be paid by charge, credit or debit card, are surcharged at the same ad valorem level of 5%, as a processing fee. Not all the goods and services suppliers who accept card payments chose to impose surcharges on their customers, but a significant and seemingly ever increasing of them do surcharge.

The Australian airlines are well known for their fixed dollar surcharges. Qantas charges a card payment fee (per passenger, per booking) of $2.50 for debit and $7.00 for credit, on domestic flights and $10 for debit and $30 for credit, on international flights.

JetStar charge a booking and service fee (per passenger, per flight) of $8.50 domestic and up to $12.50 for international, whilst Virgin charges a Fee of $7.70 for payments made by credit or debit card. These examples of surcharging have caused much angst amongst consumers and the recent Financial System Inquiry had over 5,000 submissions to its final report, complaining about surcharging, particularly by airlines.

But how will the new standards be enforced? In February, The Australian Competition and Consumer Commission (ACCC) was given the power to issue infringement notices worth up to just over $100,000 to listed corporations who charge their customers excess payment card surcharges

These are defined as charges that exceed the costs of acceptance of payment cards. It remains to be seen if the size of these penalties deters merchants from excessive surcharging.

In May, the RBA published new standards as to the average cost a merchant is permitted to charge for accepting credit or debit cards. These apply to the following so-called card schemes, EFTPOS; MasterCard credit and debit; Visa credit and debit and American Express companion cards, issued by Australian banks.

Under the new rules the average cost of accepting a debit or credit card is defined in percentage terms of cost of the transaction. This will vary by merchant, but it means that merchants will not be able to levy fixed dollar surcharges.

The permitted surcharge for an individual merchant will be based on an average of their card costs over a 12 month period. In the interests of transparency, the financial institution who processes each merchant’s transactions, will be required to provide regular statements of the average cost of acceptance for each of the card schemes.

This information will of course also be important for the ACCC in any cases where enforcement is required if merchants are surcharging excessively.

Now that surcharges are well defined by the RBA, the risk is that surcharging will become a normal extra charge like GST, an unintended consequence of the new rules. Also why should merchants be allowed to charge their customer a surcharge for such payments, which are surely just another cost of doing business, just as is their utility bills and employee wages?

The ACCC is currently finalising guidance material for consumers and merchants which will provide further information on the ACCC’s enforcement role and how consumers can make complaints if they believe that a surcharge is excessive.

Surcharges on card payments have certainly already provoked rage amongst consumers, the final question is, will the next iteration of surcharge standards make surcharging the norm?

Author: Steve Worthington, Adjunct Professor, Swinburne University of Technology

Australian Household Credit Card Debt Profiling

Following the US card data analysis we reported this morning, we have been looking at the situation among Australian households by using data from our household surveys. We extracted the average revolving balance data from our surveys, and mapped this first to household age bands. We find that the largest proportion of debt are found in households aged 50-54, and more generally, older households have more debt, similar to the US findings. The spike in the 20-24 age bands is explained by young households yet to own a property, and often living with parents, or in shared accommodation, with larger spending appetites.

Data from the RBA also shows that nationally, whilst credit limits have steadily increased, the total balances accruing interest have not.

We also looked at households by our master segments, and found that most debt sits with our suburban households. These are relatively stable households, but not the most affluent. Stressed households, relatively, hold lower debt balances.

This is confirmed by looking at households by our property segmentation. The highest debt distribution is found in households looking to trade up, hold property, or trade down. These groups have significant assets behind them. Other groups, including first time buyers have lower debt balances.

In our final piece of analysis, we looked are credit card debt distribution by the loan to value of those with mortgages. We found the largest debt levels reside in LVR bands between 60-80%, where the same is true of mortgage balances. So, we can see a correlation between LVR bands and credit card revolving debt.

So, overall we conclude that older households, especially with a mortgage hold the highest card balances, and that card lending is intrinsically connected with home lending.

Update On Current Cards Payment Review

Malcolm Edey RBA Assistant Governor (Financial System) has teased us today with an update on the review currently in hand, and yet to be finalised. He highlighted three specific areas of focus. Companion cards (likely to be caught by the interchange regime) , Interchange fees (probable cut/cap in fees and extended to more cards and payments) and surcharging (probably allowed but on a percentage basis).

The economics of the payments systems would be impacted as a result. We think the value of rewards points would likely take a further hit.

Companion cards

It has been just over a decade since the Bank first considered the case for regulating interchange-like payments made by American Express to its partner banks under companion card arrangements.

Since then, issuance of companion cards has grown faster than that for the four-party schemes, and the combined share of credit and charge card transactions accounted for by Diners Club and American Express has noticeably increased. The change largely occurred in two steps coinciding with the introduction of companion cards by the major banks. At the same time, evidence cited in our consultation paper points to a steady increase in the importance of companion cards within the overall American Express card business in Australia. Some merchants have indicated that an increased cardholder base as a result of companion card arrangements has increased the pressure for them to accept American Express cards.

For reasons that I have already outlined, differentials in interchange-like payments can have an important influence on the incentives to use particular payment methods, and these developments in companion card usage suggest that the different regulatory treatments for the two arrangements may have been a factor in shaping the development of the market. In the Bank’s view, an efficient payments system is promoted where the relative prices of different payment methods consistently reflect their relative resource costs.

In reviewing this area, the Bank has indicated that three options have been under consideration. Those options are to retain the current arrangements, to remove regulation of the four-party schemes, and to regulate interchange-like payments for companion cards so that they would be subject to the same cap as the four-party schemes. In its consultation paper released in December last year, the Bank indicated that it favoured the third of those options, and this has formed the basis for further consultation in the period since then.

Interchange fees

The interchange benchmarks set by the Board are the primary instrument for the Bank to anchor credit and debit card interchange fees at a desired level. The current benchmarks of 50 basis points for credit cards and 12 cents for debit have been in place since 2006. As I mentioned earlier, reductions in those benchmarks were considered, but not adopted, at the time of the 2007/08 review.

In the period since then, the Board has remained concerned that interchange benchmarks may still be higher in Australia than is desirable for payments system efficiency. Another concern has been the proliferation of interchange categories over time and the widening dispersion of interchange fees. Often these work to the disadvantage of smaller merchants who do not benefit from preferential strategic rates. As at September last year, the average credit card interchange rate faced by non-preferred merchants was 55 basis points higher than the rate faced by preferred merchants; for debit cards the difference was around 13 cents. At the individual merchant level, these differences can be much bigger.

In its December consultation paper the Bank set out a series of regulatory options in this area. They included retaining the status quo, reducing the weighted average benchmarks, and supplementing those benchmarks with hard caps on individual transactions. A fourth option of removing interchange regulations, while strengthening transparency of these fees to merchants, was also included. The Board’s preliminary assessment was in favour of a mix of the second and third options I just described. This would involve retaining the existing weighted average of 50 basis points for credit cards, supplementing it with a hard cap of 80 basis points on individual transactions, and reducing the debit benchmark to 8 cents. Once again, this was not a final decision but was announced as a basis for the subsequent phase of consultation that is now being completed.

As well as looking at the overall level of interchange fees, the Review is also considering a number of related issues concerning coverage and compliance.

On coverage, the issues discussed in the December paper concern commercial cards, foreign-issued cards and pre-paid cards. Currently commercial cards are included within the scope of the Bank’s interchange standards and hence form part of the calculation for the purposes of compliance with the weighted average benchmark. A number of interested parties have argued that these cards should be exempted, especially in the event that interchange caps were lowered. They argue, for example, that commercial cards typically provide a higher value of associated services than other card types, with fewer non-interchange revenue streams, and that these features could justify higher fees. On the other hand, consultations also suggest that these cards provide significant benefits to both sides of the market, and hence it is not clear that higher interchange fees are needed to promote their use. The Bank has also noted that, since commercial cards typically carry higher interchange fees than consumer cards, their exemption would amount to a de facto loosening of the weighted average cap.

Foreign-issued cards are currently excluded from the benchmark calculations, and the question is whether these should be brought within the scope of domestic regulation for transactions acquired in Australia. Here a key consideration is the possibility of circumvention. Foreign-issued cards used in Australia typically carry a much higher interchange fee than the domestic benchmark, and under current arrangements could be used to circumvent the domestic cap. At this stage, however, the market share of foreign issued cards in Australian card transactions is still relatively small – around 3 per cent. In response to the December consultation document, Mastercard and Visa (among others) have made a number of arguments for retaining the existing treatment of foreign-issued cards, and these are being carefully considered.

For domestic pre-paid cards, the Board is similarly considering whether these should be brought within the scope of the existing standard.

The issue concerning the compliance mechanism can be stated fairly simply. The current mechanism operates on a three-year compliance cycle, such that the weighted average benchmark has to be met in November of every third year. Since the mix of card transactions within any system tends to shift towards the higher cost cards over time, average interchange fees have tended to rise during each three-year period. This in turn has had the paradoxical effect that the actual weighted averages for the Visa and Mastercard schemes have been almost always above the cap. The Board’s intent, however, is that average fees should be below the cap, not above it. That is what a cap means. The review process is consulting on options to tighten the compliance mechanism in keeping with that intent.

A related question on compliance concerns the possible regulation of scheme payments to issuers. These marketing and incentive payments are bilaterally negotiated and can be quite material in value, and the flexibility of such payments means that they can be structured in ways to circumvent interchange regulation. Internationally, regulators have moved to limit these types of payments. Under European regulation, for example, they are treated as if they were interchange payments. As part of its Review, the Board is considering whether a similar treatment should be adopted here. The preliminary position announced in December was in favour of that option.

Surcharging

As I have already mentioned, the Board has long held the view that the ability to surcharge for more expensive payment methods is part of an efficient payment system. The ability to surcharge expands the options available to merchants beyond a binary decision to accept or reject a card, and it allows price signals to pass through to the consumer who decides which payment method to use.

Nonetheless, efficient surcharging should reflect the cost to the merchant. When the Board’s initial surcharging reforms were put in place in 2003 it was expected that market forces would provide a sufficient discipline on surcharging behaviour. Since then, however, evidence of excessive surcharging in some industries has accumulated.

The Board revised its regulation in 2013 to give schemes greater power to prevent excessive surcharging, but those arrangements proved difficult to enforce. This has prompted a further review by the Board as part of its current process. As well as consulting with the full range of interested stakeholders, the Bank has had discussions with the ACCC and Treasury about possible policy approaches. The Board’s proposed response builds on the recent Government measures to strengthen ACCC enforcement powers in this area.

The main elements of the coordinated approach were set out in the December consultation paper. These are, that:

Government legislation bans excessive surcharging, defined as surcharging in excess of the Reserve Bank standard

The Bank’s standard is based on a simple and verifiable measure of the cost of acceptance, with appropriate transparency of costs to merchants

The ACCC has enforcement powers in cases of excessive surcharging by merchants, and

The Bank’s standard continues to stipulate that schemes may not have no-surcharge rules.

Under the Bank’s preferred approach, acquirers would be required to provide merchants with regular statements of the cost of acceptance for each payment method. The cost of acceptance would have to be expressed in percentage terms unless the acquirer fees for that payment method were fixed across all transaction values. As a result, surcharging would normally also have to be percentage based. Among other things, this would rule out the current system of fixed-dollar surcharges in the airline industry, which would appear to result in significant over-recovery of payment costs on low-value fares.

Improving Consumer Outcomes and Enhancing Competition In Credit Cards

The Treasurer has released for public consultation the Government’s response to the Senate Economics References Committee Inquiry into matters relating to credit card interest rates. The Government’s response outlines reforms to provide greater legislative protection to vulnerable consumers, to exert more competitive pressure on credit card issuers and to provide consumers with the information they need to make the best choices about how they use their credit cards.

Background.

There are currently around 16 million credit and charge card accounts in Australia (or 1.8 cards per household). Around two-thirds of outstanding credit card debt (by value) is accruing interest. This proportion has fallen over recent years (from above 70 per cent in 2011). The decline likely reflects that credit cards are an expensive form of credit and their relative price has increased in recent years as interest rates on other forms of credit — such as household mortgages and personal loans — have fallen. Increasing use of debit cards, and the growing availability of discounted balance transfer offers, may also have been important, whilst reforms enacted under the National Consumer Credit Protection Act in 2009 and 2011 may have contributed to improved repayment behaviour.

Available data indicate that the debt-servicing burden associated with outstanding credit card balances falls more heavily on households with relatively low levels of income and wealth. Households in the lowest income quintile hold, on average, credit card debt equal to 4 per cent of their annual disposable income, while those in the highest income quintile hold debt equal to around 2 per cent of disposable income. Low income households are also more likely to persistently revolve credit card balances (and, therefore, pay interest) than high income households.

The ABS’ Household Income and Expenditure surveys show that households in the lowest income quintiles also pay more in interest charges relative to their incomes than higher income households, although overall differences between quintiles are small. Households in the bottom two quintiles by net worth also pay the most in credit card interest relative to their income.

Although reliable data on the number of consumers that are in credit card distress are not publically available, a range of evidence supports the conclusion that carrying large credit card debt is a significant cause of financial vulnerability and distress for a small but sizeable subset of consumers.

Default rates on credit cards give a sense of the proportion of credit card balances that are in severe distress. Recent estimates from the RBA suggest that total (annualised) losses on the major banks’ credit card loan portfolios are around 2½ per cent.5 Other data suggest that many consumers struggle to make the required repayments on credit cards without necessarily defaulting. A 2010 survey by Citi Australia found that 9 per cent of respondents reported that they had struggled to make minimum repayments on credit cards within the past 12 months, with low-income earners being more likely to report this than high-income earners.

Compared to other types of loans, the number of consumers struggling to or failing to make the required repayment is likely to understate the financial distress associated with credit cards. Card issuers set minimum repayment amounts as a very small proportion of the outstanding balance, so that households making the minimum repayment will only pay off their balance over a very long period and incur very large interest costs. Making the higher repayments required to pay off their outstanding balance may be sufficient to cause financial distress for many consumers.

In giving evidence to the Senate’s inquiry into the issue, the Consumer Action Law Centre (Consumer Action) and the Financial Rights Legal Centre (Financial Rights) stated that credit card debt is the most commonly cited problem by callers to Financial Rights’ financial counselling telephone service. Consistent with this, Consumer Action’s telephone service is reported to receive at least 15 calls per day related to credit card debt, with over 50 per cent of callers having credit card debt exceeding $10,000 and 28 per cent with a debt of over $28,000. Credit cards are also the most common cause of consumer credit disputes received by the Financial Ombudsman Service — of the more than 11,000 consumer credit disputes received in 2014-15, almost half were about credit cards. In contrast to the number of home loan disputes, which fell by 5 per cent over 2014-15, the number of credit card disputes rose by almost 4 per cent.

Apart from its direct financial impact, high and unmanageable credit card debt can have a significant impact on other indicators of wellbeing. An examination of financial stress amongst New South Wales households by Wesley Mission detailed the impact that financial stress can have on the household and individual, including impacts on physical and mental health, family wellbeing, interfamily relationships, social engagement and community participation. More than one quarter of respondents that identified themselves as having been in financial stress indicated that the experience had resulted in sickness or physical illness (31 per cent), relationship issues (28 per cent) or a diagnosed mental illness (28 per cent). While there are many causes of financial stress, Wesley Mission found that financially stressed households owed, on average, 70 per cent more in credit card debt than households that weren’t financially stressed.

In addition, the inflexibility of credit card interest rates to successive reductions in the official cash rate has prompted concern over the level of competition in the credit card market. Since late 2011, the average interest rate on ‘standard’ credit cards monitored by the RBA has remained around 20 per cent, at a time when the official cash rate has been reduced by a cumulative 2.75 percentage points. The average rate on ‘low rate’ cards (around 13 per cent) has been similarly unresponsive to reductions in the cash rate over the period.

Analysis conducted by the Treasury in 2015 showed that effective spreads earned by credit card providers have increased over the past decade. In particular, spreads increased substantially during the financial crisis and have remained high in the years since then.11 The increase during the financial crisis is consistent with a repricing of unsecured credit risk observed in other credit markets and economies. However, the fact that spreads have since remained very high (and have even increased a little further more recently) suggests limitations in the degree of competition in the credit card market and unsecured lending markets more generally.

Proposals For Consultation.

Credit cards are used by many Australians as a valuable tool for managing their financial affairs. The majority of Australians use their credit cards responsibly. There is, however, a subset of consumers incurring very high credit card interest charges on a persistent basis because of the inappropriate selection and provision of credit cards as well as certain patterns of credit card use. For this subset of consumers, credit cards may impose a substantial burden on financial wellbeing.

The Government finds that these outcomes reflect, among other things, a relative lack of competition on ongoing interest rates in the credit card market (arising partly because of the complexity with which interest is calculated). These outcomes also reflect behavioural biases that encourage card holders to borrow more and repay less than they would otherwise intend leading to higher (than intended) levels of credit card debt.

These views are consistent with the findings of the recent Inquiry into matters relating to credit card interest rates by the Senate Economics References Committee released in December 2015. On 18 December 2015, the Senate Committee released its report entitled Interest Rates and Informed Choice in the Australian Credit Card Market. The Government has carefully considered the recommendations made by the Senate Committee. This consultation paper also constitutes the Government’s response to that Inquiry.

The Government proposes a set of reforms that it considers are proportionate to the magnitude of the identified problems. It has drawn upon lessons and insights from regulatory developments in other jurisdictions as well as available empirical evidence, including relevant insights from behavioural economics. The Government has further drawn on evidence given by stakeholders at the Senate Inquiry hearings and its own consultation with card issuers and consumer representatives.

The proposed measures form part of a wider package of reforms that should improve competition and consumer outcomes in the credit card market. A number of aspects of the Financial System Program announced by the Government in October 2015 — including measures to improve the efficiency of the payments system and support access to and sharing of credit data — should also have a material and positive impact on consumer outcomes in the credit card market. There are already signs that reforms enacted in January 2015 to open up the credit card market to a wider pool of potential card issuers are beginning to have a positive impact on competition in the market.

Relatedly, on 19 April 2016 the Government released the final report of the review of the small amount credit contract (SACC) laws. Consistent with its approach to the credit card market, the Government wants to ensure that the SACC regulatory framework balances protecting vulnerable consumers without imposing an undue regulatory burden on industry. The final report made recommendations to increase financial inclusion and reduce the risk that consumers may be unable to meet their basic needs or may default on other necessary commitments. The Government is undertaking further consultation before making any decisions on the recommendations.

The Government recognises the importance of financial literacy in supporting good consumer outcomes in the financial system and is committed to raising the standard of financial literacy across the community. The Government provides funding to the Australian Securities and Investments Commission (ASIC) to lead the National Financial Literacy Strategy and undertake a number of initiatives to bolster financial literacy under the ASIC MoneySmart program.

The package consists of two phases. For Phase 1 (measures 1 to 4), the Government seeks stakeholder feedback with a view to developing and releasing associated exposure draft legislation in the near term. For Phase 2 (measures 5 to 9), the Government plans to shortly commence behavioural testing with consumers to determine efficacy in the Australian market and to ensure they are designed for maximum effect. Testing will be led by the Behavioural Economics Team of the Australian Government. The decision to implement these measures will be subject to the results of consumer testing and the extent to which industry presents solutions of its own accord. The Government intends to commence consumer testing in the near term and will report on the outcomes of that testing and make a final decision on implementation in due course.

The closing date for submissions is Friday, 17 June 2016.

Why Are Credit Card Rewards Points Being Devalued?

Recently several banks have quietly reduced the value of points within their rewards programmes. So whats going on?

For example, CBA will decrease the rate at which Diamond and Black card holders can earn a Qantas Point from 2 to 2.5 reward points, a 20% loss of value.

ANZ has reduced its rewards on many of its cards, with its Visa version dropping from 2 Points per $1 spent to 1.25 ANZ Reward Points per dollar spend; their Platinum American Express earn rate is falling from 3 to 2 points per dollar spent and their Platinum Visa earning 1 ANZ Rewards Point per $1 rather than the previous 1.5 points per dollar.

They are not alone. Virgin Money says from April 1 2016, the rate at which cardholders can earn Velocity Frequent Flyer Points will be reduced by up to 33%, from one Point per dollar, to 0.66 Points while the Points cap will remain at $1,500 per month. Velocity High Flyer cardholders will also see a drop from 1.25 Points per dollar, to one Point per dollar with a new points cap of $10,000 per month. They also removed rewards from BPay payments (whilst offsetting purchases from Virgin).

Citibank, effective 18th March, lowered Rewards points per A$1 to 1.5 and from uncapped to the first $20,000 spent in each monthly statement period. Credit card BPAY payments no longer earn points and Citibank’s overseas transaction fees rose to 3.4%.

There are two factors in play. First, the interchange fees (that’s the interbank fee for payment processing) has been examined by the RBA, but this is at the discussion stage, and in December 2015, the RBA said

Given the complexity of issues involving interchange fees and companion cards, it is unlikely that the Board will take any formal decision on changes to the interchange standards before its May 2016 meeting … In the case of surcharging, depending on consultation responses, it is possible that the Board may be in a position to make an earlier decision on changes to its standards.

The RBA consultation paper noted that lower interchange fees may follow.

No credit card interchange fee would be able to exceed 0.80 per cent and no debit interchange fee would be able to exceed 15 cents if levied as a fixed amount or 0.20 per cent if levied as a percentage amount.

They also said:

The reduction in interchange fees, especially the cap on the highest credit card rates, is likely to result in some reduction in the generosity of rewards programs on premium cards. It is likely, however, that there would be only limited changes to other elements of the credit card package (e.g. interest rates, interest-free periods). Similarly, the reduction in the high percentage debit/prepaid interchange categories may be likely to result in some reduction in rewards generosity for some of the new debit/prepaid rewards cards. There are unlikely to be other material changes to arrangements for transaction accounts.

We discussed credit card economics in this earlier post and the recent Senate Inquiry into Credit Cards made 11 reform recommendations.

The writing is on the wall, and interchange fees, especially for premium cards, are likely to drop.

Second, with banks experiencing margin pressure, fiddling with card reward programmes is a cheap way of growing margins. The intrinsic complexity of the reward programmes (and the fact that not all card holders cash out their rewards anyway) means that changes are so opaque as to be unnoticed by many.

Remember also that credit card interest rates have not followed the target cash rate down.

The truth is, unless you are a devoted points collector, and spend the time to calculate the value (both earn and burn) of the reward points you may gain, you will simply not react to point devaluations. And the RBA interchange intervention provides perfect cover for reducing the value of points.

Expect more cuts in coming months, hikes in some fees and charges and changes to the terms and conditions for rewards points.