After the repeal and replacement of Obamacare, the next big task facing Congress will be reform of the equally awful Dodd-Frank Act. House Financial Services Committee chairman Jeb Hensarling announced the vehicle for that task last year – the Financial CHOICE Act. Since it was announced, it has included repeal of the Durbin Amendment to Dodd-Frank, but there is now heavy lobbying to drop that provision. The special interests behind the lobbying are wrong. Repeal of the Durbin Amendment is vital for consumers.
The Durbin Amendment, introduced at the last minute of passage of the Dodd-Frank Act, has nothing to do with the financial crisis, which Dodd-Frank was supposed to be about. It introduced an unwarranted price control on the fees banks can charge merchants for customers using bank debit cards to buy goods and services.
These fees are called interchange fees, and merchants hate them. It is unclear why. Card payments mean that merchants can rely less on cash, which is inherently risky and subject to theft. Studies show that customers who use cards buy more and pay more than customers who use cash. Merchants are also protected from fraud as the banks and card network companies pick up the bill for any fraudulent use of their cards.
Banks are therefore providing significant benefits to merchants in the form of their customers’ cards, and it makes sense that these should be paid for. Before the Durbin Amendment, there was a free market in these fees, which meant that smaller merchants were able to get significant discounts. That changed when the Durbin Amendment imposed price controls. Many small merchants saw their fees go up as a result.
Part of the rationale for the Durbin Amendment was that consumers would see a reduction in prices as merchants passed along these cost savings. As any seasoned observer of economics could have predicted, that rarely happened. While merchants gained a windfall of $7 billion in cost savings, they only passed along the benefits in some highly competitive sectors. Consumers for the most part saw no benefit from the price controls.
On the other hand, because banks suddenly had to find income to replace that $7 billion in lost revenue, many bank customers found themselves losing out. The study linked above found that as a result of increased bank fees and other costs such as a reduction in the number of free checking accounts available and the almost complete disappearance of debit card reward schemes, consumers faced a net welfare loss of at least $22 billion.
Moreover, this welfare cost was borne mostly by customers on the margins of the banking system. The fees now charged by banks proved so costly for people who could barely afford a bank account that one study found that a million people were forced out of the banking system. These people turned instead to prepaid cards and check cashers that provide a better experience for poorer people (see, for instance, Lisa Servon’s book, The Unbanking of America). Those services, of course, are now under regulatory attack from the Consumer Financial Protection Bureau.
The Durbin Amendment has therefore proved to be disastrous for many American consumers. Returning to a free market for card interchange services will allow for the interests of banks, merchants, and consumers to be better balanced. That’s why it’s imperative that Chairman Hensarling stands up to the special interests and keeps repeal of the Durbin Amendment in the Financial CHOICE Act.