As UK consumers confront persistent credit card interest rates of double-digit proportions, occurring at a time when all other benchmark interest rates are steadily declining, the recent cascade of lawsuits and court decisions involving credit and debit card companies in the US may provide some indication of issues that UK courts and lawyers may confront in the near future.
After a quarter of a century of seemingly impenetrable dominance atop the US consumer credit and debit card markets, Visa and MasterCard have suffered three major defeats in US courts during the last two years.
Both recently lost a case involving hidden fixed surcharges paid by US consumers for purchases made abroad using Visa or MasterCard credit and debit cards. The card companies may be forced to pay upwards of $800m (£501.3m) in consumer refunds.
In the second case, a federal court has ordered Visa and MasterCard to rescind rules preventing the American Express and Discover networks from jointly offering card products that compete with those of Visa and MasterCard.
This decision, which resulted from a case prosecuted by the US Justice Department Antitrust Division, is being appealed by Visa and MasterCard.
The third and biggest case, and the one with the most far-reaching potential for reducing the dominant market power that Visa and MasterCard have exercised in US markets, is a case called Visa Check/MasterMoney Antitrust Litigation. It is also commonly referred to as the ‘Wal-Mart Case’.
In May, Visa and MasterCard agreed to pay $3.05bn (£1.91bn) to a group of US merchants led by Wal-Mart, Sears Roebuck, The Limited, Circuit City and Safeway. They also agreed to a price-cut to merchants in 2003, amounting to roughly an additional $1bn (£626.6m).
Most importantly, Visa and MasterCard entered into a permanent injunction which would require significant changes in their businesses and business models. The most important part of the injunction requires Visa and MasterCard to end their ‘tying arrangements’, which force merchants who accept Visa and MasterCard credit cards to also accept Visa and MasterCard-branded debit cards.
These tying arrangements are part of what the bank card associations call their ‘Honor All Cards Rules’.
In truth, although a large sum will go from bank card companies to the merchants, the more important result of this case is the injunctive relief. To understand why the injunction promises increased competition to the benefit of merchants and consumers, and why this case may be relevant to apparent competitive irregularities in the UK, a brief lesson in US legal history is necessary.
The US consumer card industry has been shaped, and some would say distorted, by a series of legal actions over the last 30 years. In the mid-1970s, Visa and MasterCard were mortal head-to-head competitors. A bank that issued Visa credit cards could not issue MasterCard credit cards and vice versa.
Then a bank called Worthen Trust challenged this rule under the US antitrust laws, saying it should be free to join both Visa and MasterCard and issue both brands of card.
Visa was in the process of successfully defending against this wrongheaded lawsuit, asserting correctly that Visa was upholding competition by requiring banks to choose one competing brand or the other. Visa asked federal and state antitrust authorities for their support in defending its policy. That support, though, was not forthcoming.
An interesting footnote is that the state antitrust agency in Arkansas actually supported Worthen Bank against Visa. The state antitrust lawyer who wrote the brief was a young University of Arkansas antitrust professor (soon to be State Attorney General) named Bill Clinton.
At the federal level, the Antitrust Division said it would not support Visa because it was unsure as to what would be better for competition, ie Visa and MasterCard competing against one another or allowing banks to issue both brands of cards but then rely on the banks competing with each other. Without government support, Visa relented and allowed its banks to start issuing MasterCard credit cards.
This was a bad day in US antitrust history.
By the early 1980s, every major bank in the US had become an owner/member of both Visa and MasterCard and issued both brands of credit cards.
This system is referred to in the US as ‘duality’. Under duality, real competition between the bank card companies all but ended, with banks unwilling to pay for the alternative and competitive offerings of two companies which they collectively owned, along with every one of their major bank competitors.
After this, the product offerings of Visa and MasterCard became virtually identical, their systems were harmonised and their pricing became homogenous. The banks offered almost indistinguishable Visa and MasterCard credit cards to consumers at interest rates and on other terms that almost never varied between the Visa and MasterCard products.
In terms of the pricing to merchants, an even more insidious and anticompetitive restraint was imposed. All the banks in Visa, which just happened to also be all the banks in MasterCard, collectively fixed the prices that merchants were charged when they accepted credit card transactions.
The fixed prices for so-called ‘interchange fees’ set by allegedly ‘competing’ banks was challenged in the early to mid-1980s in the Nabanco case.
In yet another bad day for competition policy, a federal court sided with Visa, saying that this form of price-fixing was acceptable because without it, Visa (and by logical extension MasterCard) could not keep its credit card network operating to the mutual benefit of banks, consumers and merchants.
In addition to allowing all of the banks to be members of both Visa and MasterCard, and allowing these same banks to collectively fix prices charged to merchants for both brands, duality resulted in a third competitive anomaly in the shape of the aforementioned Honor All Cards Rule tying arrangements.
The same banks that owned and ran both MasterCard and Visa unsurprisingly adopted identical rules, which forced merchants who accepted credit cards to also accept debit cards and at the same price for debit as credit, even though there is only a tiny fraction of the fraud and non-payment risk with a debit card as there is with a credit card.
Interestingly, when Visa and Barclays Bank tried to do the same thing to UK merchants in the 1980s, with the Connect Card, merchant pressure forced Barclays and Visa to desist.
In the US, the tying of debit to credit allowed the Visa/MasterCard banking cartel to extend its dominant market power from the credit card market into the rapidly expanding debit card market. It also erected significant protection against third party entry into either credit cards or debit cards.
Pricing in the US market escalated from the mid-1980s to the mid-1990s. Then the Wal-Mart Case was filed, followed two years later by the US Justice Department suit.
The success of the Wal-Mart Case and the widely expected affirmation of the Justice Department victory has emboldened many others to file antitrust actions against the bank card companies. Among these are challenges to the card associations’ practice of fixing the prices that banks charge merchants when they accept Visa and MasterCard credit and debit cards.
If there is a lesson to be learnt from the intersection of antitrust and the card companies in the US, it appears to be a simple one: allowing banks and/or card companies to act collectively destroys competition and leads to supra-competitive, rigid and homogeneous pricing of credit and debit services to merchants and consumers alike.
Networks such as Visa and MasterCard produce certain efficiencies. However, allowing them to function as clubs where supposedly competing banks coordinate their pricing, rules and product offerings, is a mistake. Furthermore, allowing competing networks to collaborate eliminates any remaining chance for meaningful competition.
These seemingly obvious but, until recently, ignored principles seem to be taking hold globally as credit card companies – and Visa and MasterCard in particular – are being challenged all over the world by public and private enforcers of antitrust policy.
This is true in the US, Australia and New Zealand and the European Community, and is likely to be true under the UK’s own competition law regime.
Lloyd Constantine is the managing partner of Constantine & Partners