Pricing Payment Cards

Posted by D. Daniel Sokol

Özlem Bedre-Defolie (ESMT European School of Management and Technology) and Emilio Calvano (Bocconi University) address Pricing Payment Cards.

ABSTRACT: Payment card networks, such as Visa, require merchants' banks to pay substantial "interchange" fees to cardholders' banks, on a per transaction basis. This paper shows that a network's profit-maximizing fee induces an inefficient price structure, over-subsidizing card usage and over-taxing merchants. In contrast to the literature we show that this distortion is systematic and arises from the fact that consumers make two distinct decisions (membership and usage) whereas merchants make only one (membership). These findings are robust to competition for cardholders and/or for merchants, network competition, and strategic card acceptance to attract consumers.