Position. on the Proposal for a Regulation of the European Parliament and of the. Council on interchange fees for card-based payment transactions,

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1 Position on the Proposal for a Regulation of the European Parliament and of the Council on interchange fees for card-based payment transactions, Com (2013) 550 final Contact: Christian Schollmeyer Telephone: Telefax: christian.schollmeyer@dsgv.de Karin Göbel Telephone: Telefax: karin.goebel@dsgv.de Berlin, Federführer: Deutscher Sparkassen- und Giroverband e. V. Charlottenstraße Berlin Telefon: Telefax:

2 Page 2 of 10 Contents Position 1 1 Essentials The substance of the proposed Regulation There is no need for the proposed Regulation Violation of the subsidiarity principle Violation of the proportionality principle 4 2 Opinions on specific provisions in the proposed Regulation Chapter II: Interchange fees Capping interchange fees is not market-compliant Appropriate cost distribution is no longer ensured Negative impact on innovation and future development of card-based payment applications Negotiated fees not covered by the proposed Regulation Article 8: Co-badging and choice of application 10

3 Page 3 of 10 1 Essentials 1.1 The substance of the proposed Regulation On 24 July 2013 the European Commission published its proposal for a Regulation of the European Parliament and of the Council on interchange fees for card-based payment transactions, Com (2013) 550 final. With this proposal the European Commission aims to help develop an EU-wide market for payment transactions. The European Commission identifies a major obstacle to market integration in the levying of inter-bank fees under four-party card schemes, the most common type of card scheme. In the view of the Commission, these interchange fees are passed on by merchants to consumers. It argues that high interchange fees paid by merchants result in higher end prices for goods and services, which are borne by consumers. The Commission also believes that, as a consequence of the interchange fees, there is inadequate competition between the various card schemes. 1.2 There is no need for the proposed Regulation The German Banking Industry Committee basically welcomes the European Commission s desire to strengthen the single market in Europe by promoting secure, innovative and efficient card-based payments. This is in tune with the efforts undertaken by the German Banking Industry Committee for many years towards establishing modern electronic payment procedures which are already providing both consumers and merchants with fast and secure payment transactions as a valuable alternative to cash. This includes the implementation of chipbased card applications and rapid contactless payment procedures. The proposed Regulation would bring regulatory intervention in the market and in the existing distribution of costs which would tend to operate primarily in favour of acquiring service companies (acquirers) and merchants and to the detriment of card-holders and card-issuing banks. The proposal from the European Commission assumes that capping interchange fees would trigger positive macroeconomic effects, as it would lead to falling market prices for card payments. The European Commission believes that by way of negotiation acquirers would pass on the cost savings to merchants, who would then reflect this in their charges to consumers. The majority of merchants, in the assessment of the German Banking Industry Committee, would not gain from the proposed Regulation on interchange fees. Lower costs would tend not to be passed on initially to merchants, who would probably need to achieve this effect by way of negotiation. Consequently, the beneficiaries would above all be the big companies who usually already profit from advantageous negotiated terms. Little to nothing is likely to trickle through to the huge number of small and medium-sized businesses.

4 Page 4 of 10 This shows that the acquirers would first of all have to show the willingness in negotiations to pass benefits on to merchants. The merchants in turn would then have to be willing to pass them on to ultimate consumers. Given the trends, however, there is no immediate need for a price policy response, as the purchase prices for established cash payment services are falling. The proposed cap of interchanges is currently designed in such a way as to directly favour the acquiring side and only indirectly if at all the customer. 1.3 Violation of the subsidiarity principle The proposed Regulation from the European Commission violates the subsidiarity principle set forth in Article 5 (3) TEU, which affirms that in areas which do not fall within its exclusive competence the European Union shall act only if and in so far as the objectives of the proposed action cannot be sufficiently achieved by the Member States. This requires both the identification of a regulatory deficiency and a prediction that Member States do not have sufficient resources of their own to remedy the problem. With this end in view, there is a need to assess the overall situation across the European Union. The European Commission has failed, however, to examine in any detail whether arrangements by Member States to limit interchange fees might achieve the same impact as a European Regulation. In the opinion of the German Banking Industry Committee, Member State rules on capping interchange fees would have just as much impact with regard to potential cost savings for consumers and ensuring a level playing field, but they would be better placed to take into account the particular features of payment schemes in the Member State concerned. The European Commission itself points out, in its Explanatory Memorandum to the proposed Regulation 1, that a number of Member States are already in the process of adopting legislation to regulate interchange fees. There is hence no reason for the European Commission to pre-empt this Member State legislation by adopting a Regulation. It is also doubtful that national arrangements will contribute to further market fragmentation and distortions to competition. The market entry of pan-european newcomers would by no means be inhibited, as national rules would apply to new and existing payment service providers alike, which would lower entry barriers to new market participants considerably. 1.4 Violation of the proportionality principle The proposal also violates the principle of proportionality. According to Article 5 (4) TEU, the measure concerned must be appropriate and necessary to achieving the objectives pursued. In this context, the justification for the limitation on Member State autonomy entailed by this particular action needs to be challenged. The essential prerequisite is that there are no equally effective policy options which might infringe less on the scope for action of Member States. 1 See page 4 of the proposed Regulation.

5 Page 5 of 10 The European Commission s principal reason for regarding the capping of interchange fees as proportionate is founded on its assumption that any losses incurred by the banks would be offset by an increased volume of card transactions. However, this conclusion fails to recognise the major influence exerted on card usage by consumer payment habits, which are unlikely to be affected by capping interchange fees. User behaviour will not be changed by a regulation of interchange fees, but it is a major factor in a high rate of card acceptance. The per capita card transactions quoted by the European Commission as an example demonstrate that high card usage rates are not found in countries where interchange fees are regulated, but are more likely to occur in countries where consumers prefer using cards on grounds of personal conviction and in response to other framework conditions. For consumers in Germany, the overwhelming majority of cardbased transactions are integrated into the charge they pay for running their bank account. German bank charges are average by European standards. Consumers nevertheless continue to set great store by cash. This suggests that there is no direct causal link between the cost of card payments to merchants and their popularity with consumers. Even without regulating interchange fees, card acceptance has been increasing steadily as a European average, induced by consumers and by actual market mechanisms. If one considers the payment transaction market as a whole, it is soon evident that Germany, for example, rather than having an underdeveloped market for payment transactions as the proposed Regulation seems to suggest actually has highly efficient transfer and debit procedures. If, therefore, the card acceptance rate here is average by European standards, this is mainly because consumers have a wide variety of other options to choose from for making non-cash payments. Consumers often do not need a card because such widespread use is made in Germany of the automated clearing network. Another factor which encourages consumers to use non-cash payments rather than cash is direct debiting, which accounts for 12.6% of retail turnover 2. In countries with different traditions, the card is often used as a flexible form of instalment credit or as an alternative means of payment where automated clearing networks are not so widespread. The high rate of card utilisation in those countries is not due to regulated interchange fees, but to a lack of other options. The German Banking Industry Committee will, therefore, happily take part in conducting a comprehensive macroeconomic analysis of the effects described which takes appropriate account of the regional features of European submarkets and the hazard potential outlined. The aim must be to establish with certainty whether the proposed Regulation will indeed generate value added for consumers and whether the pricing benefits for acquiring payment service providers will indeed be passed on to merchants and ultimately to consumers. For this reason, the German Banking Industry Committee advocates giving planned national Regulations and market developments across Europe a chance to establish themselves before possibly opting for regulatory action to counter any adverse trends which might arise. Even under these circumstances, however, such action should only be taken if there is evidence of a market failure. 2 Opinions on specific provisions in the proposed Regulation The proposal has two parts. 2 See EHI Retail Institute, Kartengestützte Zahlungssysteme im Einzelhandel 2012, page 26, 12.6% of retail turnover in 2011 paid by direct debit using ec cards.

6 Page 6 of 10 The first part contains provisions on interchange fees. The second part of the Regulation includes business rules to be applied to all types of card transaction and card-based payment transaction. 2.1 Chapter II: Interchange fees Article 3 of the proposed Regulation would set caps for interchange fees for consumer debit card payments at 0.2% of the value of the transaction and for consumer credit card payments at 0.3% of the value of the transaction. Initially these caps on interchange fees would only apply to cross-border transactions; 24 months after the entry into force of the Regulation, Article 4 of the proposed Regulation would come into play for domestic transactions. According to Article 2 (9) of the draft, interchange fee means a fee paid for each transaction directly or indirectly between the payment service providers of the payer and of the payee involved in a payment card or a payment card-based transaction Capping interchange fees is not market-compliant According to the European Commission, the maximum values for interchange fees it has proposed are geared to values that can already be observed in other markets. The European Commission does not do full justice to total procedural costs. No account is taken, for example, of the fact that the same fixed costs are incurred regardless of the value of the sale, whether it is a micropayment or a transaction involving large sums of money. The German Banking Industry Committee therefore argues that for low-value payments it should be admissible to charge a maximum fee, rather than a figure based solely on a percentage, with a view to ensuring that payment procedures can be managed cost-effectively. Moreover, the proposed Regulation links the fragmentation of the payment transaction market to costs amounting to 1% of European Union GDP, or approx. 130 billion euros 3. However, these costs refer to all payment procedures, including cash transactions. The study by the European Central Bank is specific about the costs incurred in the retail trade for the use of various payment instruments, amounting to 0.96% of GDP, and about how these costs are broken down 4. According to these findings, banks and merchants each bear about half the costs incurred by the use of payment instruments. The study goes on to show that cash is the most expensive payment instrument for retailers and thus presents the greatest social costs, at a significant percentage of GDP, while debit and credit card payments already account for a smaller proportion of the costs incurred by payment instruments. The European Central Bank study furthermore supports the conclusion that banks as card issuers already shoulder the greatest share of the costs of card-based transactions. Consumer expectations play an important part in merchants willingness to accept card payments. Whether consumers have a positive perception of a merchant depends essentially on the products on offer. The availability of cashless payment is, as the proposed Regulation points out, a necessity rather than an instrument in response to consumer wishes. It should not be forgotten that accepting card payments exerts a 3 See page 15 of the proposed Regulation. 4 See European Central Bank, The social and private costs of Retail Payment Instruments 2012, page 27, Tab. 5.

7 Page 7 of 10 positive effect on the sales volume of the merchant, who thereby also profits from a good payment product. Evidently, however, the European Commission feels that good products should be made available free of charge. The German Banking Industry Committee is not only resolutely opposed to this view, but believes that all stakeholders are already making a fair, appropriate contribution to the costs of providing the benefits of cashless payment. Consequently there is no need for Regulation Appropriate cost distribution is no longer ensured Many transactions occur in the process chain from the issue of a card to a customer to the payment procedure, the debiting of the payer s account and the crediting of a sum to the merchant s account. This must all function smoothly if user acceptance is to be vouchsafed. To this end card issuers invest in comprehensive security strategies, liability mechanisms to protect the consumer and the maintenance of extensive computerised systems for authorising payment and clearance, and it is as a result of all this that card schemes have now become one of the most popular means of payment. As one component in the operation and use of card-based payment procedures, interchange fees serve to ensure that the burdens are distributed fairly and in a manner reflecting the needs of the consumer, with all stakeholders playing their part. Interchange fees and other merchant service charges are not simply revenue credited to card issuers, but feed into the operation, maintenance and continuing development of the systems. If merchants do not contribute to covering the costs incurred, the inevitable result assuming all else remains the same will be that consumers can expect substantial price increases. In the opinion of the German Banking Industry Committee, merchants must still be required to make an appropriate contribution to the costs of tapping the benefits of card payment schemes. At the same time, there are welcome initial indications in the proposed Regulation with, for example, the Honour All Issuers Rule and the rebate option that the role of merchants in promoting the use of card payments is being acknowledged. This merits support and should be developed further. After all, merchants also have an obligation to encourage consumers to use cards in preference to cash and to keep them informed if these schemes are to become cheaper to run in general. The predicted savings to consumers will not occur unless other effects residing exclusively within the remit of the retail trade kick in as flanking mechanisms. It deserves mention that this issue is likewise critically addressed in the proposed Regulation with regard to the example of falling consumer prices in Spain. In 2006 interchange fees there were subjected to national Regulation. According to impartial academic studies of the period , Regulation resulted in a pronounced increase in annual charges for cards; over those 5 years, Spanish consumers were confronted with cumulative costs of approximately 2.35 billion euros 5 which had previously been assumed by the retail trade. The savings made by retailers did not filter through to consumers either in the form of lower prices or in the form of added value. 5 See Delgado/Fernández/Iranzo/Matías, The effects of the mandatory decrease of interchange fees in Spain, October 2012, page 39.

8 Page 8 of 10 It is undisputed that merchants reflect the costs of card transactions, cash handling and refreshing the technical knowledge of service staff in the pricing of their products. However, consumer prices are essentially determined by far weightier factors such as procurement prices for goods and services, the taxation framework and competition between retailers. Initial signals from the market certainly suggest that cost savings will not inevitably be passed on to consumers. This is in part due to the fact that interchange fees, as a component of the costs which contribute towards operating and improving card schemes, influence merchant margins and in part to the fact that there is not necessarily any direct link between the price of card payments and the price policy orientation of the merchant in question. It follows that preference should be given to market mechanisms which have demonstrated their effectiveness in terms of an increased rate of card acceptance by European standards. In Germany, for example, the market share of cashless payments in the classic retail trade is almost 40% Negative impact on innovation and future development of card-based payment applications Regulating charges will mean that innovations, such as the drive to implement contactless technology for customers and consumers, will no longer be pursued with such vigour because the market environment will be less attractive. New developments in the field of mobile payments and e-commerce would also be affected. The currently diverse market, which the Commission describes as fragmented, offers sufficient scope for innovative and secure payment procedures. Here again, the Commission makes the erroneous assumption that uniform market conditions across Europe would automatically generate positive effects for the single market as a whole. Uniform market conditions should not become an end in themselves, as this would jeopardise Europe s valuable cultural diversity. Capping interchange fees reduces the willingness of card issuers to invest in innovative processes and ideas. The Netherlands offer an example of how, following a similar move to reduce interchange fees, almost no further enhancements can be observed and a purely cost-oriented approach to developing card payment procedures has taken root. The diverse national market already provides the framework for innovations, as illustrated by the electronic cash-system which builds entirely on chip processing or else is driving contactless technology for payment procedures. This positive environment must not be undermined by rules which constrain the scope for investment. If the appeal of qualitative product differentiation declines because of regulated charges for the providers of innovative payment services, further development, investment and the potential market entry of new payment service providers are more likely not to happen. 6 See EHI Retail Institute, Kartengestützte Zahlungssysteme im Einzelhandel 2012, page 26, 39.7% of retail turnover in 2011 paid by card-based payment transaction systems.

9 Page 9 of Negotiated fees not covered by the proposed Regulation The German Banking Industry Committee assumes that negotiated fees do not fall within the scope of the proposed Regulation. The German Banking Industry Committee regards negotiated fees as a mechanism which responds sufficiently to the European Commission s demand for more market and competition. The European Commission points out in its Explanatory Memorandum to the proposed Regulation 7 that interchange fees are the subject of numerous anti-trust cases against the major credit card companies and that the General Court has ruled against Mastercard in finding that interchange fees are detrimental to competition. The proposed Regulation does not deny the pioneering role of individual fee determination taking its cue from market mechanisms, as the draft leaves room for national solutions. Nevertheless, the Regulation will set the course for all negotiations over fees, as the rate applied to capped fees will influence negotiations despite the lack of objective criteria. However, negotiated fees already reflect national and European anti-trust and competition rules without the need for Regulation. Moreover, regulating fees forged by the market would signify an intervention in the freedom of contract. Unlike the state, business players are already subject to effective control by markets and competition, and there is no necessity for additional Regulation. Freedom of contract is a core element of the free, social market economy and cannot be suppressed, even by the European fundamental freedoms in their constituent market functions. Nor, in our view, are negotiated fees analogous to interchange fees in the sense of other agreed remuneration with an equivalent object or effect. In the case of interchange fees, merchants are completely excluded from the fee setting and cannot exert any influence on the amount, as the fees are agreed solely between the payment service providers concerned. It is within the very nature of negotiated fees, however, that merchants can exert substantial influence on the amount and will ultimately only pay such fees as they consider market-compliant. In this respect, again unlike card schemes operating with interchange fees, schemes based on negotiated fees ensure that adequate competition takes place between the different payment service providers. In the opinion of the German Banking Industry Committee, negotiated fees are also not covered by the prohibition of circumvention set out in Article 5 of the proposed Regulation. This provision considers any net compensation received by an issuing bank from a payment card scheme to be part of the interchange fee. However, in schemes with negotiated fees the issuing banks receive compensation directly from the merchant, not from the scheme, so the facts on which circumvention is predicated do not apply. 7 See page 6 of the proposed Regulation.

10 Page 10 of Article 8: Co-badging and choice of application Under Article 8 (18) of the proposed Regulation, the card-holder shall determine at the point of sale for each payment transaction which application is to be used when a payment device (co-badging card) offers the choice between different brands of payment instruments (choice of application). The rules make no reference to a transition period for this choice of application, and moreover this would also apply to three-party schemes in accordance with Article 1 (3c) of the proposed Regulation. The German Banking Industry Committee takes the view that applying the choice of application to every payment transaction would result in permanent delays and uncertainties during the payment procedure. This would jeopardise the shared objective of encouraging greater use of card products and discouraging the use of cash payments. It would also be almost impossible to fulfil the technical requirements for choice of application without an appropriate implementation period. Moreover, choice of application would considerably inhibit the latest innovative developments in contactless payment transactions. In practical terms, a customer would have to use the card once to determine the current application (first tap), and then select one of the payment applications offered by the terminal, before actually making the payment (second tap) in the following stage. On grounds of practicability and to promote the use of electronic payment transactions, it would make more sense, therefore, for the card issuer to reach a transparent agreement in advance with the consumer on a prioritisation of the applications on the device, thereby preventing unnecessary delays during card payment transactions in stationery outlets compared with both the use of cash and the present state of affairs. It would not pose a problem to establish a prioritisation of this kind with the cardholder when concluding the contract for card issue, dispensing with the need for technical retrofits at the point of sale which would require major organisational, cost-intensive adaptations to systems.