Cost Sensitivity Analysis on Merchant Discount Rates

Abstract

Credit card companies provide payment services between merchants and members (i.e., cardholders) and charge merchant discount rates and annual membership fees, respectively. There is a discriminatory price structure in which merchants pay a higher commission rate than members because of the recognition that the utility of merchants is relatively greater than that of members and they have an obligation to accept cards. To prevent aggravating the burden on merchants due to the discriminatory price structure, regulations on the merchant discount rate were adopted in Korea. This study suggests a direction to improve the understanding of the credit card markets and to solve structural problems through a cost sensitivity analysis of merchant discount rates determined in the qualifying cost system introduced by the Financial Services Commission. First, we found empirical evidence that the effect of changes in each cost ratio on the merchant discount rate (price) differs depending on the intensity of the cost regulation (regulation effect). In addition, the merchant discount rate was lowered by government policy, regardless of cost. Combining the analysis results, we demonstrated that some expenses could not be recovered as merchant discount revenue when the related expenses rose due to the increase in card usage amount. To fix the structural problem of the card payment business, we suggest changing the preferential commission rates according to market conditions, reflecting eligible costs in member recruitment costs, reflecting adjustment costs in the loss rate due to the application of preferential merchant discount rates, and excluding the decrease in cost ratio due to management efficiency when the merchant discount rate is re-adjusted.