Research, regulation, industry reports

Law limiting debit interchange fees backfires

Kelly Dilworth

Whenever I visit a favorite store or restaurant, I often reach for my debit card rather than a credit card, thinking it will lower the cost of the transaction for the merchant.

But according to a report published Aug. 18 by the Federal Reserve Bank of Richmond, my efforts to use debit rather than credit to help save the retailer some money may have been in vain.

Any time a store customer swipes a credit or a debit card, the bank charges the merchant a fee, known in industry-speak as an interchange or swipe fee. For years, retailers complained ferociously to lawmakers over the size of those fees, and that led to the Durbin Amendment, a part of the landmark 2010 Dodd-Frank Wall Street Reform and Consumer Protection Act. The amendment led to a Federal Reserve regulation that capped how much card-issuing banks can charge a merchant to process a debit transaction.

But according to the new report’s authors — Richmond Fed economist Zhu Wang, and his co-authors Scarlett Schwartz and Neil Mitchell — the cap did little to lower costs for the majority of merchants, and in some cases, actually made it more expensive for merchants to accept debit cards. As a result, customers who hoped the provision would lead to lower prices at the checkout counter have been mostly disappointed.

“By regulating the interchange fee, the goal of the Durbin Amendment was to lower merchants’ costs of accepting debit cards and to pass along the cost savings to consumers in terms of reduced retail prices,” the study authors wrote in the report. Instead, the opposite happened.

The authors based their paper on a 2013 survey conducted by the Richmond Fed. The survey queried 420 merchants across multiple sectors, including restaurants, grocery stores and hotels. Its key finding: Most retailers haven’t lowered prices and nearly a quarter say they’ve had to increase prices instead. Just 2 percent of merchants surveyed by the Fed said they cut prices after the rule went into effect.

Surveyed merchants also said the law has saved them little money, despite a substantial reduction in the average interchange fee imposed on debit card transactions. “The cap reduced the average interchange fee by almost half from its pre-regulation level,” wrote the authors, but only some merchants say they benefited. According to the Fed, fewer than 10 percent of merchants said their debit costs fell after the law was enacted. A quarter said their costs increased instead.

Part of the problem is that the law had an unforeseen effect on small-ticket transactions: It made them pricier for merchants to accept debit cards for those items.

“Interchange fees unintendedly rose for small-ticket transactions,” wrote the study authors. “Prior to the regulation, most networks offered discounted debit interchange fees for small-ticket transactions as a way to encourage card acceptance by merchants for those transactions.” Once the Durbin Amendment became law, card networks such as Visa and MasterCard stopped offering the small-ticket discount and instead began charging merchants the maximum amount allowed under the law.

That led to substantial fee increases for merchants who specialized in $5, 10 and $20 transactions, such as fast-food restaurants and discount stores.

As a result, some merchants began passing the higher debit fee costs onto customers. For example, 100 percent of the delivery service providers surveyed by the Fed confessed to adding a markup after the law went into effect. Nearly 78 percent of office product merchants also said they increased prices. So, too, did nearly 40 percent of fast food restaurants and almost 29 percent of apparel stores.

The Fed survey also found that retailers are significantly more likely to raise prices when their debit card costs increase than they are to lower prices when their costs decline. “The sources of the asymmetric reactions remain a puzzle,” say the authors, “which may warrant additional research.”

Your bottom line
You’re unlikely to see any savings on the goods you buy most often. According to the Fed, grocery stores, fast food restaurants and delivery services are among the most likely merchants to report seeing an increase in debit card fees.

But you can help your favorite merchants save more money at the till by paying for your purchases in cash rather than using a card that takes a hefty cut of each transaction. Paying in cash might not lead to more savings for you, but it at least might make you feel good to know you’re helping out your favorite business.

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  • WontGetFooldAgain

    Where are my Durbin dollars?

  • thedwightguy .

    So THAT’S why gas stations added ten cents a gallon onto my bill above their advertised price, even though I paid with direct debit instead of a charge card. We don’t see this in Canada at all, the adding on of fees.