Paper or Plastic

Rationalization is a fact of life.  We’re complex, our world is complex, and we often have to balance competing desires.  It shouldn’t be surprising that some of our decisions or patterns of behavior conflict with our stated beliefs and values.  One may think of oneself as “concerned about the environment” but have energy-intensive habits (or at least not be perfect about turning off the lights when one leaves home).  One may think of oneself as “in favor of small government” but like receiving certain benefits.  One may think of Wal-Mart as the root of all evil but shop there anyway.  Cognitive dissonance is uncomfortable, so one has to engage in some sort of rationalization (consciously or not) for the behavior in light of the stated beliefs.  I think it might be revealing to try for a day to take note of all my actions or inactions that cause me to rationalize, but even then I’m sure I would miss some.  I think it’s imperative, though, to look for such patterns over time and come to terms with them.

I’m brought to this discussion via Felix Salmon (thanks to YA) who calls attention to a really delightful takedown of JPMorgan Chase CEO Jamie Dimon, by Illinois Senator Dick Durbin, on the subject of debit interchange.  (Here’s one example of cognitive dissonance: I like to believe I’m a nice person, but I always enjoy a snarky slam when it comes from a place of righteousness – like a priceless Frank Bruni critique of an awful restaurant.)

It really shouldn’t be controversial to assert that interchange (on debit and credit transactions) is too damn high.  There’s a religious debate to be had over whether (and how) government should intervene in oligopolies that are superficially competitive but, really, collectively extract huge economic rents. 

I’m more interested in how people (including myself) rationalize their usage of debit and credit cards as payment mechanisms in light of what we know about interchange fees.  Put simply: it cost merchants something to accept card payments.  This cost can be relatively small, in the case of a PIN-based debit transaction; or it can be several percentage points, in the case of an American Express transaction.  The merchant receives some benefit from this arrangement, such as the volume that results from people’s tendency to spend more freely on plastic, as well as the security of not having to handle as much cash on premises.  The customer receives some benefit too, which is generally proportional to the fee charged to the merchant.  A PIN-based debit transaction only gets me the benefit of not having to carry cash for my purchases.  An AmEx transaction gets me that benefit as well as loyalty points, an interest-free grace period before I actually have to pay my bill, and whatever cachet AmEx seems to think it confers.

Here’s what should cause dissonance, though: credit cards, particularly when used at low-margin businesses, generally transfer wealth from less-affluent customers to more-affluent customers (and large financial institutions).  Progressives hate this concept in the general case, but seem to accept it as a consequence of their (our) payment choices.

When I use my AmEx at a fancy restaurant, I think it’s a clear win for everyone.  It’s hard to guess what my spending would look like in a world without plastic, but it’s almost certainly true that I would spend less freely and less often.  So the restaurant probably ends up incrementally better off, which can be possible even at a lower margin if there’s an offsetting increase in sales volume.  As such, they would not necessarily need to raise prices. 

But the dynamics are different when I use my AmEx at a neighborhood grocery store.  Grocery retailing is generally a competitive, commoditized business.  Operating margins tend to be in the single digits.  My basket of groceries at D’Agostino’s (or Stop & Shop, etc.) is probably about as profitable as a pensioner’s or middle-class family’s.  There are plenty of grocery stores within walking distance, so no store can be too much of an outlier on price.  When AmEx takes a few percentage points off the top, it can be very meaningful to the grocer’s overall economics.  That lost margin needs to be made up somehow.  It’s not volume; I’m not likely to buy more eggs just because I have plastic instead of cash.  To some extent, the grocer can push back on its suppliers; but the largest of these, too, are low-margin, competitive businesses.  To some extent, the grocer can try to shift me to higher-margin products, like store-brands or fancy organic foods; but I’ll buy what I want to buy.  The other lever is simply to charge higher prices across the board.  Implicitly, this means that everyone pays higher prices for benefits that accrue only to credit card users and the financial institutions behind them.  This is what I mean by wealth transfer.

A progressive person should prefer to pay cash, or use PIN-based debit transactions, in order to minimize the cost to merchants (and, by extension, the costs that are passed on to other consumers).  But the prisoner’s dilemma gives him or her an easy out for rationalization: someone else is going to use a credit card, which means there is going to be a mark-up on prices anyway – so I might as well get my points too!

Maybe it doesn’t occur to people that it costs merchants something to process a card transaction.  But I think the more likely explanation is that card usage creates externalities, and people (including myself) generally have an easy time rationalizing decisions when the harm is vague and diffuse, but the benefit is clear and personal.  (Wonder why we have a $14 trillion national debt?)

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