Futureof Visa n MasterCard.pptx

Constantine & Partners
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Constantine Cannon
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The Future of Visa and MasterCard
By Jeffrey I. Shinder
Partner, Constantine Cannon
New York City/Washington
jshinder@constantinecannon.com
Presentation to
LAFFERTY INTERNATIONAL CARDS &
PAYMENTS COUNCIL
May 11, 2005

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• Major Issues Facing Visa and MasterCard
– Internal cohesion
– Merchant anger
– Pressure from new competitors
– Magnet for legal problems
– Potential preference by large banks for different ownership
structure

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• What U.S. Banks Like About The Associations
– Full menu of products
– Financial incentives (big banks)
– High interchange products
– Support for affinity/co-brand deals (monolines)
– Sharing cost of investing in new products
– Spending on brand (monolines)

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• Typical Complaints of U.S. Member/Owner Banks
– Association brands compete with their own
– Assessments and dues are used to benefit competitors
– Visa and MasterCard associations are too bureaucratic and
inflexible
– Too many legal problems

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• Legal Problems
– U.S. lawsuits
– Australian Reserve Bank action
– European Commission
– U.K. Office of Fair Trading
– Reviews of interchange by other states

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• Legal Problems Can be Sub-Divided into 3 Broad
Categories
– Membership rules
– Merchant acceptance practices
– Interchange

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• Membership Rules
– U.S. Justice Department suit-resulted in
• Invalidation of Visa by-law 2.10(e) and MasterCard Competitive
Programs Policy
• Key judicial findings, including Visa and MasterCard’s joint and
individual market power
• Private damages lawsuits from American Express and Morgan
Stanley/Discover
– Morgan Stanley challenge to Visa membership rules in
Europe resulted in
• August 2004 statement of objections by Commission

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• Merchant Acceptance Practices
– Honor All Cards rules
• U.S. Merchant Honor All Cards class action
• EU examination of Honor All Cards rule
– No-surcharge rule
• Invalidated by Australian Reserve Bank
• Merchant Dissatisfaction Continues
– Interchange
– Introduction of new premium card products in the U.S.
– Chargeback rules and fines

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The U.S. Merchant Challenge to the
Honor All Cards Rules
• Basic Claims
– Visa/MC Honor All Cards rules illegally tied
debit card acceptance to credit card
acceptance
– Visa (alone and together with MC) used the
tying arrangements to monopolize the debit
market

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The U.S. Merchant Challenge to the Honor
All Cards Rules
• Visa/MasterCard Convinced Banks That Settlement Was Remote And
Unnecessary
– “I don’t think we should hold any delusions about it. The damage
claimed theoretically exceeds a billion. The practice at issue is a
fundamental business practice in both associations, the cost of
adjusting that business practice is enormous . . . [S]ettlement
discussions before the parties have flexed their muscles [at] summary
judgment strikes me as probably a waste of the Court’s time.” (Visa’s
Laurence Popofsky at June 26, 1997 hearing)

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• The Honor All Cards Rules – Why They Were Anticompetitive?
HAC tying rules
Forced merchant acceptance
Supracompetitive interchange
Banks favor signature debit
Signature debit rewards Higher PIN debit interchange
Signature debit steering materials
PIN debit penalties
Reduced incentives to install PIN pads
Reduced PIN debit volume
Reduced overall debit volume

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• The Court’s Summary Judgment Findings In The Merchant
Class Action
– Court denied all 11 of Visa/MC’s motions
– Court granted 6 of the merchants’ motions
 Debit and credit are distinct products
 Existence of a credit card market
 Visa has market power in credit
 Existence of a tying arrangement
 Evidence of a debit card market
• These Findings Can Be Used In Future Cases
– Interchange cases
– Other tying cases (i.e. corporate cards)

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The Settlement of the Merchant Case
• Compensatory Relief
– $3,050,000,000 over ten years
– $846,000,000 in reduced interchange fees from
Aug. 1 – Dec. 31, 2003
– Largest antitrust recovery in history (by more than 3x)
– Largest federal class action settlement in history
• Injunctive Relief
– Abolishing the Honor All Cards tying rules
– Mandatory visual and electronic identifiers for all debit cards by
January 1, 2007
– No exclusive debit deals between Visa and banks for two years

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Merchant Lawsuit-Long Term Fallout
• Financial Implications Of Settlement
– Visa settlement service fee
– Visa and MasterCard “litigation” over settlement service fee
• Greater Merchant Power And Cohesion
– Special deals on debit interchange
– Merchant steering
– Growing merchant coordination
• Diminished Association Power And Cohesion
– Bank disenchantment with handling of merchant case and its settlement
– Credit card issuers do not want to pay for debit card settlement
– Debit card issuers dissatisfied with lower interchange fees

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The Final Frontier-Interchange

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The Final Frontier-Interchange
Key Questions
• Is It Necessary For Credit Card And Debit Card Networks To
Function?
• Is It Anti-Competitive?
• Would Visa And MasterCard Survive In Their Current Form
Without Interchange?
• Would Changes In Association Ownership Structure Address
Antitrust Issues Associated With Interchange?

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The Australian Review Of Interchange
• October 2000 – Interchange Found To Be Above-Cost
• August 2002 - RBAAnnounces Mandatory Reductions Of
Interchange Rates
• September 2003 – Visa/MasterCard Appeals Fail
• October 2003 – Visa/MasterCard Credit Card Interchange Rates Fell
By Half
– Little discernible impact on volume
• December 2003 – Australian Competition Authority Proposes Zero
Interchange For Debit
– Australian Competition tribunal overturns this proposal
• February 2005 – RBA Proposes Reductions In Signature And PIN
Debit Interchange

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The European Review of Interchange
• January 1977 – Visa Enters European Market And Requests
An Exemption From Certain EU Competition Laws
• 1985 – EC Grants Visa A Comfort Letter
• Retailer Complaints Regarding Interchange In 1992 (British
Retail Consortium) And 1997 (Eurocommerce)

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The EU Challenges Visa/MasterCard Interchange
• September 2000 – Preliminary Finding That Visa Interchange
Is Price-Fixing
• June 2001 – Visa Proposes To Lower Interchange Fee
• July 2002 – EC Exempts Visa Interchange Fees In Response
To Visa Proposal
– Visa reduced interchange fees based on cost-based benchmarks
– EC found that:
• Interchange was anti-competitive
• Bilateral arrangements were inefficient
• October 2003- EC Sends Statement Of Objections To
MasterCard Regarding Interchange
• May 2004 – Visa And MasterCard Agree To Reduce Cross-
Border Interchange

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The U.K. Review of Interchange
• March 2000 - Cruickshank Report Is Released
– No cost justification for interchange
• September 2000 – British Retail Consortium files
complaint
• February 2003 – OFT Finding That MasterCard
Common Interchange Fee Violates Competition Act
• May 2003 – OFT Report Recognizes Both Pro-And
Anti-Competitive Aspects Of Interchange
• November 2004 – OFT Announces Formal Inquiry
Into Visa Interchange Fees

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Other Recent Significant National Investigations Of
Interchange
• Spain
• Netherlands
• Poland
• Switzerland
• Italy
• Israel
• Sweden

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Is The U.S. Next?
• Credit Card Interchange Survived Antitrust Challenge In The
1980s
• Visa And MasterCard Extend Interchange To New Products,
Including Debit Cards And Commercial Cards
• Visa And MasterCard Have Since Abused Their Power To
Collectively Fix Interchange Fees

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• Visa And MasterCard Have Abused The Power To Fix
Interchange In The U.S.
– Visa has raised its base credit card rate by 64% since 1990
– MasterCard has raised its base credit card rate by 49%
since 1990
• These Increases Cannot Be Cost Justified
– Fraud – down 67% since 1991
– Cost of funds – down 80% since 1989
– Increased economies of scale
• Substantial increase in credit card volume since 1993
− Reduced hardware, processing and telecommunications
• U.S. Rates Are Amongst The Highest In The World

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Is The U.S. Next?
• The Federal Reserve Examines Interchange
• Individual Merchant Cases
• Merchant Class Action?

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• Cohesion Of Visa And MasterCard Associations In
The U.S.
– Potential divisions between banks
• Large issuers
• Monoline credit card issuers
• Regional and smaller banks
• Private label issuers
– Hard core loyalists vs. banks that are hedging their bets

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