Frequent flyers should be concerned about the Reserve Bank of Australia's proposed changes to interchange fee regulation that specifically targets credit cards linked to rewards programs.
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Marketers' prey on the fact we all like to think we are getting something for nothing and the catch with some rewards cards is that cardholders can actually lose money.
While there has been a lot of noise made over the Turnbull government's proposed actions to ban excessive credit-card surcharges – particularly for online flight bookings – interchange fee regulation is an issue that has slipped under the radar.
Interchange fees are charges between two banks – not a hidden consumer fee. First, a merchant service charge is paid by retailers to their bank. Part of that charge is then passed on to the cardholder's bank – the interchange fee. What cut each of those banks takes reflects the costs incurred and risks they bear in making the system work. The interchange fee goes to pay for things like fraud protection, interest-free periods, and reward points – including frequent-flyer programs. If the cardholder's bank has less money to pay for these benefits, the value of the benefits are either reined in or fees and charges are increased – or a combination of both.
Last year, Citibank was the first major credit-card issuer to make cuts to its reward programs – and now the trend is hitting the major banks. Commonwealth Bank customers have had the value of their credit-card rewards points slashed by 20 per cent last week.
These announcements should not come as a surprise, because this is the experience right around the world. For example, the European Union recently capped interchange fees at 0.3 per cent. Within weeks, credit-card companies started to scrap mileage points and other rewards attached to their cards. Annual fees for consumers were also heavily increased.
In 2003 the RBA capped the interchange fee. This year, the RBA is proposing to tighten the cap even further by setting maximum limits, rather than an average. The empirical evidence from all over the world proves that interchange regulation benefits retailers at the cardholders' expense. As RMIT University professors Sinclair Davidson and Jason Potts noted, "[In 2003] the RBA engaged in an extensive regulatory intervention based on poor theory and no empirical evidence."
The RBA's own data shows that interchange fee regulation has cost Australian credit-card consumers more than $8 billion over the past 12 years. Yet, no evidence has been provided by the RBA – or any other body – to justify its plans for further regulation.
Unless the RBA learns from the past it is destined to repeat its mistakes.
The Turnbull government's response to the Murray Financial System Inquiry did not endorse a recommendation to lower interchange fees. Last December, the Senate economics committee did not recommend any further regulation on interchange fees, instead proposing that the issue be referred to the Productivity Commission.
Yet, the RBA continues to stubbornly press on with its plans for further regulation. These controls explicitly target credit cards linked to rewards and frequent-flyer programs.
This is bad news for all consumers with a rewards credit card.
First, because discounts, status credits, mileage points and reward seats are all benefits that travellers use regularly to keep their travel costs down. Business travel is often a necessity, not a luxury. For Australian domestic travel, programs including Qantas Frequent Flyer and Virgin Australia's Velocity are an important aspect of non-price competition for domestic routes, which helps to keep airfares low.
Second, because the regulations will also hurt competition and innovation in the credit-card market itself. Every major bank has a co-branded Qantas credit card earning Qantas Points. Velocity has co-branded arrangements with NAB and American Express and has a scheme where ANZ's Rewards credit-card points can be converted to Velocity points. Virgin Money issues its own card linked to the Velocity program, while Qantas' subsidiary Jetstar issues its own credit card. In total, frequent-flyer programs add more than 100 financial products to the credit-card market.
For some reason the RBA does not like reward points or frequent-flyer programs, and is determined to micromanage what cards consumers have access to.
The RBA fails to realise that a competitive market providing choice to consumers is the best way at regulating interchange fees.
Aaron Lane is a PhD candidate in economics at RMIT University, and national campaign director of Don't let them pass the buck, an initiative of the Australian Taxpayers' Alliance.