Regulating Debit Cards: The Case of Ad Valorem Fees

Debit cards have become an indispensable part of the U.S. payments system, accounting for more than a third of consumer payments at point of sale. With this development has come controversy: Card networks charge merchants fees that merchants believe are too high. And most of the fees are ad valorem—that is, based on transaction value—rather than fixed fees per transaction. Merchants are critical of the ad valorem debit card fees. They argue that debit cards, unlike credit cards, do not extend credit to card users, and the risks of debit fraud are small. So, there should be no cost rationale for debit cards to charge ad valorem fees. In fact, fixed pertransaction fees are the norm for debit cards in many countries around the world. This controversy raises interesting questions. Given that debit cards incur a fixed cost per transaction, why do they charge ad valorem fees? How do ad valorem fees affect payment market participants, including consumers, merchants, and card networks? And should policymakers consider regulating debit cards by requiring fixed per-transaction fees?