Should the Government Ban Rewards Credit Cards?

Small and online retailers, mom-and-pop stores, and local merchants have been able to thrive by accepting credit card payments. Merchants know that credit card users often spend more than cash users, and the convenience of using credit has increased revenue for all types of business owners. The convenience comes at a price, however. The price for the average customer is a lighter wallet, and the price for the merchant is the cost of accepting those credit card transactions.

Credit card processing companies charge merchants a fee to accept credit cards. The best credit cards offer rewards like cash back, and benefits like these help boost the frequency of credit card swipes. I only use reward-based credit cards, and many people I talk to about finances do the same. Unfortunately for the merchant, although the process of accepting a basic credit card is the same as the process of accepting a card with extra benefits, the processing companies charge significantly more for merchants to swipe the rewards cards. These higher interchange fees help pay for the rewards that customers receive, assuming revenue from interest and late fees is not high enough to cover the issuers’ expenses.

With higher interchange fees, merchants must raise the prices of their products to hold onto a profit margin, passing the cost onto customers. At the same time, small business are under pressure to keep prices low to compete with large retailers like national chains and Amazon.com. The industry is facing new regulations on debit card transaction fees to protect small businesses who have found it difficult to negotiate with the large processing companies like Visa and MasterCard under this pressure.

One option to solve some of the small retailers’ difficulties as well as a money management problem in the public could be to ban issuers from creating incentives and benefits for people who use credit cards.

Here are a few reasons banning rewards credit cards like these best cash back credit cards could be good for society:

• Merchants would not be forced to choose between pricing products higher than identical offerings by larger retailers and eliminating their profit margins. As a result, more merchants would stay in business, offering consumers more choice.
• While it’s unlikely merchants will pass along the savings from lower interchange fees to customers in the form of lower prices immediately, there would be a buffer to slow down any price increases.
• Many customers who use credit cards solely for the cash back rewards might switch to debit cards or cash. In either case, spenders reduce their chances of going into debt, and unless they are already disciplined spenders, they will spend less. Thanks to a psychological barrier, people are more likely to carefully consider a purchase if they have to take cash out of their wallet rather than if they use a credit card.
• Customers spend more with rewards credit cards. Eliminate rewards credit cards, and the country will keep more of its own money in its pocket.

Of course, there are several drawbacks to banning rewards credit cards, and because of these any such measure would likely never occur in the United States.

• Rewards credit cards offers consumers a choice. Differentiation in the marketplace helps customers find a payment method that works best for them.
• Disciplined spenders, those who use a credit card to buy only what they can afford and only what they would have purchased regardless of the payment method, should be free to receive a reward. Disciplined spenders should not be punished for the actions of those who use rewards credit cards to go into debt.
• Some Americans are critical of the government’s intervention with business. Although it comes with the intention of protecting consumers and small businesses, a move to ban rewards credit cards could be seen as too strong an action.

One consequence of the new regulations, whether intended or unintended, is that the large banks offering debit card products have sought alternative options for profiting from debit customers, usually in the form of a higher or broader monthly fee. This is shaking up the industry today, with major banks finding more ways to make their customers profitable or to gently show them the door. Smaller banks and credit unions, however, are welcoming new customers with open arms and no fees.

The dust hasn’t settled yet. When it does, the financial industry could have a different shape than today’s “long tail.” Today we see a small number of large banks controlling a good majority of deposits in the United States, with the rest spread out among thousands of smaller institutions. The new debit card fees could result in better equalization throughout the industry, even helping reduce the “too big to fail” banks’ exposure to systemic risk. Eliminating rewards credit cards could further equalize the industry by helping small business owners compete with large retailers.

As an active rewards credit card user, I would be sad to see my benefits disappear. Should the government ban rewards credit cards to help consumers and small retailers?

This is a guest article by Luke Landes, the creator of Consumerism Commentary. On Consumerism Commentary, Luke discusses the money management issues that face readers on the path to improving their own finances, with a perspective that focuses on active decision-making, consumer education, and self-reflection.