Israel Antitrust Authority
Increasing Competition and Efficiency in The Payment Card Industry
The Israeli Antitrust Authority (IAA) recently published a working paper on competition in the payment card industry for pubic hearing. The result of the study that was conducted is a set of recommended actions which constitute a comprehensive process intended to increase competition and efficiency in the payment card industry. The paper emphasizes the necessity of a comprehensive process in order to create genuine change and warns that a limited or partial implementation of such recommendations might prove to be insufficient.
The IAA’s study concentrates on three key areas: (1) identifying and removing barriers that impede the development of the use of debit card transactions; (2) changing the timing of payment transfer from issuers to acquirers and to merchants in deferred debit transactions (which are most commonly used), and; (3) calling for the creation of the appropriate conditions for the development of advanced means of payment.
The essential findings of the study were presented to the Cabinet of Ministers of responsible for lowering living costs, headed by Minister Naphtali Bennett and to the committee investigating the shadow economy", chaired by the head of the Office of the Prime Minister, Mr. Harel Locker. Following the discussion in the Cabinet of Ministers, the IAA and the Bank of Israel are expected to submit in the near future a proposal for legislation.
Development of debit card transactions
From the customer's perspective, payment card transactions can be divided into two types according to the transaction's billing date: debit transactions, in which cardholder's account is charged immediately or within a short time following the transaction, and deferred debit transactions ("credit transactions") where the cardholder is charged at a later date, typically at the beginning of the following month or through installments over several future dates.
On the other hand, the Merchant is credited both in debit and deferred debit transaction at the beginning of the following month.
According to the report, debit transactions are expected to be significantly cheaper than deferred debit transactions for merchants, both due to the fact that they involve almost no credit risk and due to the reduction in credit days that merchants need to fund.
The development of the use of debit is expected to increase competition between credit card companies and, as a result, to improve the bargaining power of merchants in their negotiations over fees with these companies. Hence, the proliferation of the use of debit is expected to create significant benefits for merchants, especially for small businesses. In addition, more prevalent use of debit transactions is expected to reduce the use of cash and its contribution to the shadow economy. Consumers will benefit, in turn, from access to additional tools to manage their finances and from the reduction in the cost of goods.
In Israel, in contrast to most other countries examined in this study, debit transactions are hardly existent. Merchants do not encourage customers to use debit transactions since the significant advantage of this transaction is currently mute in Israel. That is, while the customer is charged immediately, merchants receive payment at a future date, similar to the timing of payment associated with deferred debit transactions, typically in the beginning of the following month. In addition, merchants pay high fees for debit transaction, at a similar rate as paid for deferred debit transactions. Without an incentive to favor a debit transaction over an ordinary deferred debit transaction, merchants have no reason to encourage customers to elect debit transaction as their mean of payment. From the perspective of customers, debit transactions are inferior relative to deferred debit transaction as they are associated with a banks charge for each individual transaction ("line fee") as opposed to a charge for the unified monthly payment of deferred debit transactions.
The IAA paper states that: "we believe that the negligible extent in which debit transactions are used in Israel is a strong indication of the problematic competitive state of affairs.... the lack of use of debit is caused by a number of market failures that prevent the internalization of the benefits associate with debit by consumers and merchants. One of the main market failures is the lack of incentives on behalf of the existing credit card companies, under current market conditions, to promote the use of debit despite its advantages". One of the results of the prevalent use of deferred debit transactions is the increased need of merchants for credit and other services that advance payment, where in both types of services, credit card companies and the banks that own them are among the major players.
A schematic calculation conducted as part of the study, provides a preliminary estimate, showing that if debit transactions would reach a 35% share of overall card transactions in Israel, a total of 300 million NIS would be potentially saved each year in interchange fee payments (a fee that constitutes a "floor price" for merchants' fees). Merchants and consumers are expected to internalize a significant portion of this savings in the form of reduced fees and lower cost of goods and services. In addition, merchants would be able to save up to 150 million NIS a year due to the reduction in the number of credit days they need to fund in comparison to the current state.
Immediate transfer of funds in standard deferred debit transactions
In contrast with a debit transaction, in a deferred debit transaction the card holder is not being charged shortly following the timing of the transaction but rather at a later date. In such transactions, cardholders enjoy an average of 15 days of credit (typically referred to as "grace period"). In Israel, merchants receive the payment from the acquirer 20 days from the date of purchase on average. Therefore, merchants are forced to fund consumers' credit days from own sources, typically causing a need to obtain credit from banks or to pay for services that advance payments. The delayed timing for the transfer of funds to merchants differs from the norm in many countries where merchants receive the funds from the transaction shortly following its occurrence.
IAA recommends examining an action that will shift the funding of the grace period from merchants to issuers, as the latter possess significantly lower financing costs. An instruction to change the timing of the transfer of funds in deferred debit transactions would accomplish two goals: in the short run, it will reduce merchants' costs approximately by 150 million NIS annually, at a minimum; In the medium run, it will significantly reduce the effective level of own funds that acquirers are required to hold according to the Bank of Israel regulations, thus allowing easier entry of new acquirers to the market and enhancing competition, which in turn will lead to an additional fee reduction for merchants.
Measures intended to facilitate the use of debit transactions:
- Determination of (lower) regulatory interchange fee rate for debit transactions.
- Instruct debit card issuers to transfer payments to acquirers no later than two days following the time of the transaction ("immediately"), and acquirers, in turn, will be required to transfer these payments to the merchant immediately.
- Require banks to classify debit transactions appropriately in bank statements.
- Restrict banks from charging a transaction fee per debit transaction. Banks will be allowed to charge a monthly fee.
- Prohibit acquirer-merchant agreements that bind acquiring of deferred debit transactions with acquiring of debit transactions.
- Require that all existing and newly issued credit cards will be able to perform debit transactions by default (referred to as "dual cards"), following a transition period of no more than one year.
- Provide regulated acquirers access to the credit card switch.
- Examine the possibility of performing debit transactions on the existing ATM switch, or a designated similar switch.
- Form an incentive scheme for merchants to upgrade existing terminals in two stages:
- In the short run (up to one year ) - provide incentives for software upgrade, without need for physical replacement of terminals, in order to enable debit transactions execution using dual cards.
- In the intermediate run (two to three years) - upgrade terminals to support advanced security standards and advanced technology cards that are facilitated using both the credit card switch and the ATM (or similarly designated) switch. Among other measures, it is recommended to examine the possibility of imposing a legal requirement on merchants or acquirers to upgrade terminals by a given date.
Measures for the immediate transfer of funds in standard deferred debit transactions:
- Instruct that the transfer of funds from an issuer to an acquirer and from the acquirer to the merchant, in standard deferred debit transactions, will be immediate.
- Examine the need for an adjustment of the interchange fee rate for standard deferred debit transactions.
Recommendations to promote innovation and the use of advanced payment methods
- Examine the required adjustment in the payment cards law needed in order to recognize a transaction made using an advanced payment method as "standard" transaction.
- Investigate the formation of a regulatory framework for payment systems aimed to create an infrastructure for developments in the field and to enhance competition.
 "Committee investigating the shadow economy and means to limit its scope through reduction in the use of cash and movement towards other means of payment "