LawFin Research Seminar joint with Finance Seminar

Abstract:

Payment markets are two-sided. Networks like Visa and Mastercard charge merchant fees to fund consumer rewards. I study how regulation, private entry, and public entry in this market affect prices, distribution, and welfare in equilibrium. I model two-sided multihoming, retail price-setting, and network competition. I estimate the model by matching data on consumers’ card holdings, merchant acceptance, network pricing, and the effects of debit reward reductions. The estimated model matches external evidence on networks’ costs, merchants’ margins, and the effects of AmEx’s 2016–2019 cuts in merchant fees. Using the estimated model, I compare the effects of capping credit card merchant fees, increasing entry of private credit card networks, and introducing a low-fee public option like FedNow.
Capping credit card merchant fees is progressive and increases annual welfare by reducing rewards, retail prices, and credit card use. However, because consumer adoption is ten times more price-sensitive than merchant acceptance, competition from private networks like Discover or Buy Now Pay Later services like Affirm raises rewards without lowering fees, lowering welfare. A public option struggles to gain consumer adoption without rewards, limiting welfare gains.