The New York Times ran this interesting article  yesterday, investigating the difference between signature debit transactions and PIN debit transactions. In my opinion, the article does a pretty good job of describing the vast market power of Visa and Mastercard, and the ways in which that market power distorts the debit payment system. For example, I didn’t know that when debit systems first emerged in the 1980’s, merchants actually received money back from banks for debit transactions because debit transactions saved banks the cost of processing checks. This makes a lot of sense, and highlights the fact that the actual cost of debit “interchange” for banks is practically nothing. Visa entirely changed the market by incentivizing banks to issue debit cards that use signatures instead of PINs, and charging higher fees. Because of the bizarre structure of the payments market, the higher rates charged by Visa actually made their more expensive product more attractive (to banks), and Visa captured a huge chunk of the debit payments market. Mastercard responded by increasing their interchange rates. The result is that merchants now pay approximately 75 cents per 100 dollars in interchange fees on debit purchases. All for a process that costs the banks almost nothing. The NYT reporter should be commended for getting this quote from Elizabeth Buse, Visa’s global head of product, with respect to debit interchange fees: [they are] “not a cost-based calculation, but a value-based calculation.” Indeed.

But beyond despairing over the market power of payment networks, merchants can take some steps to reduce their exposure. Specifically, signature debit still incurs larger fees than PIN debit, as shown in the chart. The article describes how banks try to encourage customers to use signature debit. Merchants should nudge customers toward the PIN option.