Are Credit Card Rewards at the Risk of Extinction?

In this digital and tech-savvy age, many people are now going cashless and utilizing digital banks or credit cards in their transactions. Credit cards allow cardholders to borrow money to pay for goods and services to organizations that accept cards for payment. This financial tool imposes the condition that users pay back the borrowed money plus any applicable interest either by the billing date or over time. 

Some argue that there are many disadvantages to using credit cards due to the high rate of interest and fees associated with the card, overspending, scam, and fraud.  Here at Wikimiles, we see credit cards as excellent financial tools for convenience and security.

People opt to use credit cards because they offer fast payment, easier access to shopping, and protection from theft and fraud. Other benefits, such as credit scores and rewards, are also why consumers use this payment method.

But, what exactly are credit card rewards, and how do they work? There are three main types of credit card rewards:

• Cash Back - The simplest type of reward. Here, the bank takes a certain percentage of the money the user spends and returns it as a check or credit towards the bill. 
• Points - Whenever purchases are made with credit cards, users earn points based on their spending. These points can be cashed in for gift cards or other products and services.
• Travel Rewards - Frequent flyers or travelers use this reward to save for free or discounted airline tickets. Passengers also cash in their miles for gift cards, cash, or other merchandise. 

Credit cards can earn users hundreds of dollars in rewards annually. For example, if someone has a 2% cash back card and charges USD 3,000 to it each month, that person can earn USD 720 per year.

However, these seemingly free benefits come at a cost. Most economists agree that the cost is a change in consumer behavior that distorts the economy. It also has a net effect of a regressive tax as poorer consumers pay the elevated prices caused by credit card fees, yet who are not eligible for the best reward cards and hence don't get any of the benefits more affluent consumers get through their rewards. 

These negative consequences attracted the attention of lawmakers, who aspire to make the system more efficient and more equitable for consumers and the economy as a whole.

U.S. Senators Richard Durbin and Roger Marshall propose the Credit Card Competition Act of 2022. This aims to foster competition among the U.S. credit card companies by allowing merchants to route payments through other networks. This would force Visa and Mastercard to regulate the interchange fees they charge to retailers when processing credit card transactions. 

What are interchange and processing fees

There are credit card processing fees for merchants. When consumers buy something with their card, the merchant pays interchange, assessment, and processing fees to accept consumer credit card payments.

While merchants are the ones charged with interchange fees, consumers can still be affected by these charges in different ways. The vast majority of retailers accept the card with no surcharge and may simply pass the cost of such fees in the prices of their goods and services, in effect passing the burden of paying the fees to the customers. 

Some merchants may also require customers to make a minimum purchase if they want to use a credit card, which helps the merchant cover the interchange fee. 

Other retailers don’t accept credit card payments in their stores because the fees they’re being charged are too high.

Pros and Cons of the Proposed Credit Card Competition Act of 2022

People who use reward credit cards are at an advantage when earning rewards. However, retailers who offer this type of payment in their stores may struggle due to interchange fees. 

With the Credit Card Competition Act of 2022, merchants will be allowed to choose from many payment networks to facilitate credit card transactions—meaning, they can choose the one that offers the lowest interchange fees to guarantee lower costs. This may also lead to lower prices for commodities, which may be beneficial for the consumer.

One disadvantage is that lower processing revenues and interchange fees might force credit card issuers to minimize or lessen their rewards programs. Additionally, this might prevent consumers from choosing payment networks that provide the best security because retailers opted for cheaper networks with subpar security measures.

Retail lobbyists are promoting how this act would lead to lower consumer prices and promote efficiency and equity in the economy. Credit card lobby counters that big retailers may not pass along the savings they would get from lower interchange fees. 

Something similar has already happened before with the Durbin Amendment from Dodd-Frank Wall Street Reform and Consumer Protection Act limited fees for debit purchases. Once the law passed, banks promptly abolished rewards for debit transactions. However, retailers never offered discounts to debit users, and the prices were the same whether paying with a debit or credit card.

The Credit Card Competition Act of 2022 could have the same effect as the one mentioned above. If the act passes, it could take the value away from consumers, and retailers would benefit more from extra savings. As seen in the Durbin Amendment, cost savings are passed on to larger retailers instead of consumers. 

This act will also affect the travel industry since U.S. airline companies sell frequent flyer miles to banks for their consumer-credit rewards programs. 

Airline companies like American Airlines and United Airlines typically generate a significant portion of their revenue from credit card partnerships. If the act is implemented, they need to look for other ways to earn revenue if the rewards are cut off. One way to do so would be to raise fees for airfare, which, in turn, would harm consumers’ pockets. 

At the same time, the credit card rewards system is not very efficient - it is difficult to understand for many consumers. They don’t always make the best decisions when using their rewards, and the airlines are direct beneficiaries of this; they often derive higher revenue from reward booking than they would otherwise.

The law's intent is in the right place: More competition is the answer.

Transparency of credit card merchant fees and providing consumers with choices to make informed decisions will go a long way to mitigate the current system's issues. 

Lawmakers should avoid setting hard caps on fees and let the market do the footwork: Apps like Apple Pay and Google Pay could be instrumental in providing cheaper and more efficient payment alternatives. 

The consumer will get to vote with their spending dollars whether the value they get from reward cards is preferred to alternatives retailers may offer instead in exchange for alternate modes of payment.