Proceedings of the Standing Senate Committee on
Banking, Trade and Commerce
Issue 6 - Evidence, May 7, 2009
OTTAWA, Thursday, May 7, 2009
The Standing Senate Committee on Banking, Trade and Commerce met this day at 10:30 a.m. to study on the credit and debit card systems in Canada and their relative rates and fees, in particular for businesses and consumers.
Senator Michael A. Meighen (Chair) in the chair.
[English]
The Chair: I call the meeting to order.
[Translation]
Welcome to you all. This morning, the Standing Senate Committee on Banking, Trade and Commerce is holding its final meeting on credit and debit card systems in Canada.
[English]
The committee was charged with undertaking this inquiry after the Senate, in early March, adopted a motion put forward by Senator Ringuette to have the committee study this issue. To date, the committee has heard from a number of key stakeholders in the credit and debit card systems, including representatives of card issuers, merchants, payment processers, credit card companies, Canada's debit network, and consumers.
Today, we will be provided with another perspective. In the first half of our meeting this morning, we will hear from the academics and the policy-making community about credit and debit cards. We are pleased to have with us from Queen's University, Roger Ware, Professor of Economics, Department of Economics; and from Edgar, Dunn & Company, Peter Dunn, Director, and Robert White, Director. Thank you for travelling to Ottawa to appear before the committee. We will also hear from Saul Schwartz, from the School of Public Policy Administration at Carleton University.
Allow me to introduce the members of the Banking Committee: On my far right is Senator Oliver, from Nova Scotia; Senator Gerstein, from Ontario; Senator Goldstein, from Quebec; Senator Ringuette, from New Brunswick; and Senator Harb, from Ontario.
In the Senate, we have Senator Gerstein, Senator Grafstein and Senator Goldstein and we never know who will show up and play what role. In any event, we are happy to have our deputy chair here, Senator Goldstein.
Mr. Dunn, please proceed.
Peter T. Dunn, Director, Edgar, Dunn & Company: Edgar, Dunn & Company sincerely appreciates the committee's invitation to participate in its study of Canada's debit and credit systems. I am a founding director of Edgar, Dunn & Company. I have been involved with the payment card systems, including interchange, for over 35 years around the world. With me today is my fellow director, Robert White, who has been involved extensively in the changes made to the Australian payments market. We have provided the committee with background materials on both the firm and the card systems. I would be pleased to expand upon them at a later time.
As we indicate in the materials, Edgar, Dunn & Company has worked with a wide range of participants in the global payments, in particular with bank systems, for about 30 years. The bank card systems around the world were developed using commercially sound principles that address the unique aspects of those systems, and they have withstood the test of time. Most importantly, these fundamental principles have resulted in a vibrant and competitive, local and global set of payment systems where all participants enjoy substantial benefits. The bank card systems have been so successful that some of their unique aspects are often taken for granted. I want to discuss a few.
First, the systems rely on carefully balancing the interests of both the merchant, who accepts the product, sells merchandise and receives a prompt and guaranteed payment, and the account holder, who uses the product for convenience, safety and potentially for rewards and extended credit. While the institutions that provide these services compete with each other for account holders and merchants, they must agree on operating principles and rules, and must cooperate and coordinate in support of each other's customers. Revenue to fund and invest in the system is derived from two sources, the two ultimate customers, who are the account holder and the merchant. All other revenues that we discuss take place within that envelope.
It is crucial to the overall size and success of the bank card systems that both end users — the merchant and the cardholder — perceive that the value delivered to them is consistent with the price they pay. The schemes, which are in the middle, compete with each other and try to keep the value-to-price ratio as high as possible for their issuing and acquiring businesses. At times, the individual interests of those acquiring and issuing businesses might be in conflict.
There is a need for an interbank or interchange fee that allows different institutions to offer parts of the end-to-end service. This fee is needed to support the growth and operation of the system and creates no new revenue for the system. Understandably, both sides of the system often raise issues about the fee. For issuers, the fee is always too low; and for acquirers, it is too high. The role of the card schemes is to manage this constructive tension as it arises and to benefit the entire system.
Interchange fee structures and fee levels are established by the schemes. They reflect the value delivered by the system to the acquiring participant, in the case of the point-of-sale, POS, transaction; and to an issuing participant in the case of a transaction at an automated teller machine, ATM, to partially offset the costs related to the service incurred by the issuing business for POS transactions or to the acquirer of an ATM transaction. These fees may be fixed, a percentage or a combination of the two within the same system, depending on market needs. The card payment system is complex, and many elements are intertwined. Changes in one area or to one participant can have direct impacts on other participants and on the effectiveness and size of the entire system. This is the case when interchange is involved.
This complexity inevitably causes issues to be raised, typically in a manner that serves the individual interests of the party raising the issue. Ultimately, these issues must be considered in the context of the entire system or network. Competition exists at all levels of the system among payment types, schemes, issuers and acquirers, processors and agents. For payment types, competition exists among cash, debit, credit and cheque. Among schemes, it is Proprietary, Visa, MasterCard, Interac, American Express and Discover. Among the issuers, the large banks here in Canada, it is Royal, CIBC, Bank of Montreal and so forth. Among them are acquirers and processers, or agents, on both the issuing and acquiring sides.
While the overall characteristics of these payment card systems are similar in most geographies, the specific economics, the fees and business practices related to the end-to-end transaction between the merchant and the card holders' account are highly dependent on local economic, social and political factors. While we can learn lessons from other locations and improvements can be made, solutions to the debit and credit issues raised in Canada are likely to be based solely on Canada's unique history and circumstances.
We look forward to your comments and questions.
Roger Ware, Professor of Economics, Department of Economics, Queen's University: Good morning. I thank the committee for giving me this opportunity to appear. I have tried to focus on summarizing the academic debate and findings pertaining to competition in credit and debit card networks, and on the design of regulatory schemes to regulate those networks. I have kept my preliminary statement short to allow maximum time for questions.
Economic theorists love to theorize about everything, and they have theorized a great deal about payment card networks over the last 20 years or so. The first important feature of that theorizing is the understanding that credit card and debit card industries are examples of what economists now call "two-sided markets.'' The distinguishing feature of two-sided markets is that they contain two sets of end users, each of whom needs the other for the market to operate. In the case of credit and debit card markets, the two end-user groups are the cardholders and the merchants, each of whom obtains value from the existence of these electronic payment systems.
There is a strong element in these payment networks of network economics, in the sense that it is more valuable to a particular bank to issue a Visa card, when there are more merchants that accept Visa cards. It is equally more valuable to me as a consumer to have a Visa card if there are more places that I can use it. In network economics, we generally have a combination of two kinds of competition. We have what is called internetwork competition, which occurs between the networks and is sometimes called system competition. For example, competition between Visa and MasterCard is an example of internetwork competition. In the debit industry, of course, at the moment, we have a single network, the Interac network.
What economists call intranetwork competition, or within-system competition, operates between members of the same network. For example, different Visa card issuing banks, financial and nonfinancial institutions, compete with each other for the credit card business of consumers. As you know, there are a large number of cards out there, each offering a slightly different combination of interest rates, card fees, free balance periods, reward programs and various branding attributes. I think it is fair to say that the competition at the card-issuing level is intense. It also occurs for merchants at the option level. It occurs among merchants and among acquirers, because acquirers want to make an attractive proposition to merchants to accept their card or to adopt their card. It may not always be as intense as on the issuing side, because in some cases there are honour-all-cards rules. A merchant cannot decide to accept one Visa card, let us say only Royal Bank Visa cards and no other Visa card, because Visa has an honour-all-cards rule that requires a merchant who decides to adopt one Visa card to adopt them all.
As a side note, this rule is particularly confusing because the phrase, "honour all cards,'' means something different in the United States than in Europe in the policy debate. In the United States, the phrase has been used in various anti- trust cases to mean that if a merchant takes a Visa credit card, they must also take the Visa debit card. In Europe, it generally means that if a merchant takes one Visa card, they must take them all.
The Chair: What practice is followed in Canada, then?
Mr. Ware: I believe that in Canada, currently we do not have Visa debit, but I believe that Visa has stated that when Visa debit appears, the merchants will not be required to use both or adopt both.
The interchange fee, being a fee paid from the merchant to the card issuer, strictly from the acquirer to the card issuer, is not a conventional price in the sense of the price of apples or the price of groceries. When we think of the price of apples, we generally agree that if the price of apples goes up, consumers are worse off. The interchange fee, being a payment from acquirers to issuers, is a two-sided price. It is designed to balance the interests of merchants, ultimately, or the value to merchants, if I can put it that way, in terms of the value of adopting or accepting the card, and the interests of issuers in having an incentive to issue that particular card. If we unilaterally increase the interchange fee in a credit card network, in the short term, at least, that increase likely would have the effect of making merchants less well- off and issuers better off, but in the long term the effect is not that simple. I am happy to elaborate on that effect if there is interest. Basically, the optimal interchange fee is one that balances acceptance by merchants with value to issuers.
What does the evidence show? There has been much study in the last ten years or so particularly, and most of that study has taken place in the United States because of prominent antitrust cases, in Australia where there was a much publicized experiment in regulating interchange fees, and in the United Kingdom where there has been a study by the Office of Fair Trading. The problem is that the conclusions are not clear, at least not to me.
The Reserve Bank of Australia, who regulated interchange fees there, concluded in their report that they believed a regulated reduction in interchange fee was beneficial. I find their analysis not very persuasive, I might add, but that was their conclusion, and they concluded to continue it. There was also a similar conclusion by the Office of Fair Trading in the U.K.
The Chair: When you say beneficial, to whom was it beneficial or not beneficial?
Mr. Ware: The system as a whole is clearly not beneficial to the credit card issuers, but they have a sophisticated, equilibrium view of trying to aggregate the total welfare of consumers and financial institutions and all the other players in the system. However, as I say, I do not find their analysis persuasive.
I can say perhaps two things on that subject. The Reserve Bank of Australia finds that lowering interchange fees by regulation has the effect of reducing the margins between the interchange fee, which is paid by the acquirer to the issuer, and the merchant discount, which is the discount that the acquirer charges the merchant. Their argument was that reducing that margin was equivalent to making the system more competitive. I am not sure if I find that argument particularly persuasive or the evidence to support it strong.
The bank also argues that regulation is required because merchants do not have sufficient bargaining power in setting interchange fees. They describe that as a coordination problem. The argument is that if all merchants were able to group or band together and be party to negotiation or the bargaining, to the setting of interchange fees, then they would come up probably with the optimal value. Since that negotiation does not happen and each individual makes a single adoption decision in competition with other merchants, then they have a tendency to be in a weak position, which leads to interchange fees being too high. That is the argument of the Reserve Bank of Australia.
I will make a few quick comments about debit cards. When the Interac system was set up in its current form in the mid-1990s, and I was involved as an adviser, there was a sense among some people that this electronic payment debit system was what economists call a natural monopoly. There was great value to having a single technology, a single network, and allowing every merchant who was financially sound and every issuer who was financially sound to be connected to it. There is some evidence to support that approach because it was successful. It has been a tremendously successful network and has had a tremendously high rate of growth. It has been successful in adoption and successful in use. It has gone from zero in the early 1990s to about 20 per cent of all purchases by consumers now made through Interac.
On the other hand, there is no competition. Competition is something that economists like, and I am in favour of it. I see no reason to expect that the entry of a new debit network would be anything but pro-competitive.
On the debit side, interchange fees are currently set at zero in Canada — and they are in other countries, too. In a competitive market, we would like the parties to set those fees, in accordance with cost minimization principles; but if we have a regulated monopoly, which is currently the case, the problem is, what is the right number? It is difficult to argue that we have any evidence to suggest that we should change interchange fees at the moment.
As far as merchant fees go, merchant fees and Interac are currently set at a fixed rate per transaction. I am not sure what Visa's debit plans are, but as a competition economist, I would argue that what is most desirable is to allow competition to discipline the market in setting those fees efficiently, and not to regulate them.
The final point in my statement is about tying issues, but that is redundant here. This issue was big in several antitrust cases in the United States. This point relates to honouring all cards. Visa had required its merchants to accept Visa debit if they accepted Visa credit, and we have already accepted that requirement will not happen here. That is an example of what economists call a "tying restraint.'' Those are all my opening remarks.
Saul Schwartz, School of Public Policy and Administration, Carleton University: I want to thank the committee for inviting me. It is important to acknowledge the role that this committee has played in the public debate about all kinds of financial matters in Canada.
Whenever I have looked for information about such matters as personal bankruptcy, student loan repayment or, in this case, credit card and debit card issues, if I type those things into Google, I often come up with testimony before this committee. It has always been a source of accurate information and reasoned opinion.
I want to make two quick and simple arguments with the help of my friend here, which is my favourite household appliance, the toaster. This toaster is an especially good one; the top is wide enough to toast bagels in it. It was a big innovation some years ago.
My first argument is that debit and credit cards are useful tools, like my toaster here, and ones that people really love. People love their credit cards. Unfortunately, like the toaster, these products are potentially hazardous.
I am stealing an idea from Elizabeth Warren, a professor at the Harvard Law School and head of the congressional oversight committee for the $700 billion U.S. bailout fund. Her idea is that countries need, and I believe Canada needs, a financial product safety commission to regulate not necessarily the price, but the terms and conditions under which credit and debit cards are used. That is point number one.
Second — and I do not think this idea has appeared before the committee thus far — is the argument that promoting financial literacy among young people or all of us, while desirable, is not the way to ensure consumer safety. There is no strong evidence that financial literacy programs improve financial decision-making. One would think they would, but I have seen no evidence that they do.
There is no evidence that promoting financial literacy, teaching people about credit cards, interest rates and things like that, even improves their financial literacy. If they retest people a year after they have taken the course, it is gone; it has floated away into the ether. Therefore, it is not clear to me, and I will talk about this point later, why everyone is so excited — especially the credit card issuers, the banks and governments — about promoting financial literacy.
Let me come back to my toaster. Why does Canada need an independent, effective regulator of financial services, a regulator that I believe can be modeled on existing Canadian agencies that regulate hazardous products? Think about this toaster. When Canadians buy electrical appliances, we do not have to worry. When I put the bagel in the toaster this morning and then went off to check the Internet, I did not have to worry, if I became involved in an email exchange, that the bagel would burn and my house would start on fire. I did not have to worry that the toaster would explode. If I become distracted, there is a little person in there who realizes that I am gone and he or she turns off the toaster. It stops. It does not become overheated; it does not explode.
Who makes sure that happens? I had no idea, so when I was asked to testify before the committee, I tried to look that up. There is an organization I had never heard of called the Electrical Safety Authority. It is an Ontario provincial non-profit organization, and it is responsible for public electrical safety in Ontario. It is regulated by the government. It is accountable to the Ontario Ministry of Small Business and Consumer Services.
Every piece of electrical equipment sold in Ontario must meet the requirements of the Ontario electrical safety code, which is a set of provisions under a 1998 law. The existence of this organization and its regulation is an acknowledgement that even these useful, extremely valuable, much beloved appliances are potentially hazardous and need to be overseen.
Credit cards and debit cards are far from simple and harmless. They are much more like toasters than they are like other, simpler goods.
We need this financial product safety commission for a variety of reasons. For example, we need clear and comprehensive disclosure. With my credit card, I want something that says here is how much I paid in interest, here is how much I paid in fees and here is how much I paid in penalties.
The industry has resisted that kind of clear disclosure. Some steps have been taken in that direction, but there is no reason why we should not have clear, bright-line disclosure of the terms and conditions of credit and debit cards.
Canada already has an agency called the Financial Consumer Agency of Canada. However, as far as I can tell — and I would be happy to learn otherwise — this agency performs basically an education role. It has no power to do what I and others would envision for a financial products safety commission.
On the second point, what can we say about these financial literacy programs? It is clear from the evaluation literature involving these programs that if they have any impact on financial literacy, that impact is small. At best, they have a small impact on financial literacy.
At worst, in my opinion, the programs are a cynical attempt by the providers of financial services to avoid the kind of direct regulation that a financial product safety commission might carry with it. They can say it is the problem of the users; if they only educate them, they do not need direct regulation. We do not need good disclosure; we do not need to regulate the terms and conditions.
Let me go back to my toaster. Imagine that we did not have the Electrical Safety Authority in the form that it exists now. Suppose we had only the industry saying they do not need that kind of regulation. They do not need to meet the rules of the electrical code in Ontario; they need only that the users be toaster-literate. We need to promote toaster literacy. Why should the manufacturers of toasters be subject to this oppressive regulation when a fully informed, toaster-literate consumer could be taught how these things work, how to recognize potentially dangerous defects and how to fix those defects as needed?
I think that approach will not work. My father worked in a factory his whole life. He thought he could train me to figure out how to fix the plumbing and this idea did not work at all. I cannot do it.
He would know how to fix it. If one day the bagel started to smoke, he would say, the little timer inside the toaster must be broken; let me take it apart and fix it. He could do that but I cannot, and I submit that most people in this room cannot. We need regulation for that reason. Toaster literacy is not the answer to fixing the potentially hazardous features of the toaster.
I submit the same is true of financial services. It is too complicated in our day and age to figure out how they work. It is not a matter of financial literacy.
To be clear, the goal of such legislation is consumer safety. It need not involve price regulation, the regulation of interchange fees or discount fees.
In closing, I will make one further point. There is a fundamental inconsistency in support for financial literacy by the credit card industry. The industry believes that it supports financial literacy. It would like us to knowledgeable about how the cards work, the interest rates and the fees. The industry also believes in the value proposition, meaning that the industry and the merchants believe people buy more simply because they are buying with a credit card. A lot of evidence in economic literature suggests that is true.
Here is an example of an experiment conducted in Boston. Boston Celtics playoff tickets are for sale. They take one group of business students and tell them they can buy these tickets, but they must use a credit card or debit card. The students bid against each other until someone buys the tickets. The other group of business students is told that tickets are for sale, but they must use cash. The students bid amongst themselves and the highest bid wins. Inevitably, the bid from the group using credit cards is higher.
That is the kind of evidence that suggests people buy more because they are paying with a credit card. That would not be true if they were financially literate. The value proposition would not exist to the same extent for merchants. There would still be convenience and safety. That is all true. However, the fundamental point is that the value to the industry — merchants, issuers and acquirers — depends on consumers not being financially literate.
To summarize, Canada needs a strong, independent financial product safety commission to ensure debit cards and credit cards are not hazardous to the financial health of Canadian consumers. Financial literacy programs are not sufficient to make those cards safe.
The Chair: Thank you for all your presentations.
Senator Oliver: The first two presenters, Mr. Dunn and Mr. Ware, did not say anything about financial literacy. That is one of the things a number of witnesses have spoken to us about. We are a committee dealing with public policy issues. We have been asked to look at whether there is a need for financial literacy training and education, and, if so, what form it should take and who should deliver it. In relation to Mr. Schwartz's comments, it is not only banks promoting financial literacy; many other consumer groups are promoting it as well. Mr. Dunn and Mr. Ware, can you comment on financial literacy?
Second, I want to hear Mr. Dunn's view on whether this committee, from a public policy viewpoint, should look at regulation as a way of trying to determine fair interchange fees or should it be left to competition and the market.
Mr. Dunn: Let me take the questions one at a time.
I believe literacy can be helpful on both sides. Mr. Schwartz's discussion concentrated on literacy at the consumer level, which has to do with the relationship between consumers and the issuing bank. There have been instances in the United States, in particular, that one could describe as abusive with respect to those practices.
First, education needs to take place between the merchants and their acquirers. In many cases, merchants concerned about various aspects of the system have not had disclosed to them how the system works. That responsibility to inquire is with the merchants. Second, what we call financial literacy has requirements on both sides and many of those requirements deal with disclosure. Third, training can help everyone understand how the system works. All three of these areas can be addressed.
With respect to regulation, I prefer to use the word "oversight.'' There are places where it can be helpful to the system so ensure the system is not abusing end users. There is competition at every level of the system and therefore, no need to regulate interchange fees. The economics of the system and the interests of all four parties involved drive those fees to a reasonable level that benefits end users and increases the size of the network.
Senator Oliver: If MasterCard and Visa debit come full force into Canada, will Interac have any chance?
Mr. Dunn: I think Interac is in a difficult position whether or not MasterCard or Visa comes into Canada. Canada has created an incredibly successful debit system, but it is not funded properly to keep up with changes occurring in the industry and the investments necessary. Interac must receive revenue from somewhere.
Senator Oliver: What do you recommend?
Mr. Dunn: I recommend that you seriously consider making the appropriate changes to allow Interac to compete more effectively. Those changes will increase the cost of the Interac system to merchants, because the cost is essentially zero now. System costs are not passed to the acquiring and merchant side of the equation. It would be unfair to say that Interac or any other organization can obtain revenue where it costs one side nothing. Revenue all would have to come from the issuing side, which is where it comes from today.
I suggest that Interac's current mode of governance is cumbersome. It is difficult for them to compete in the world today. If Interac's mode of operation were to change, costs will increase on the merchant side. I do not think that increase is a bad thing necessarily. Interac has the ability to continue to be a low-cost producer. Whether MasterCard and Visa will match or exceed it is unclear. The value delivered to those ultimate customers will eventually determine who is successful. I do not believe Interac can continue as it operates today.
Mr. Ware: On the question of financial literacy, I spend my day job at a university. You will not hear me arguing against literacy. I am in favour of more public policy effort directed to literacy. The question is how and where. Those are the details.
A friend in Kingston told me recently that he studied economics in high school and the only thing he learned was how to balance his cheque book. It struck me that while we teach economics currently in high school, balancing a cheque book is one thing we do not teach people.
We do not talk to our children about those small issues related to budget constraints, how they work, long-term saving, et cetera as much as we should. That is one side of the issue.
The other side is whether it is a good idea to create more transparency for credit card users. What other fees are they currently paying? If they do this, then this will happen. In general, I am also in favour of that transparency. It is not easy to create. I have heard an idea of putting warning labels analogous to cigarettes on credit cards, but I am not sure where to put them and what they would say. I think more disclosure, transparency and financial education are good ideas.
The Chair: Senator Massicotte is next. However, I will remind senators that we have four more questioners after Senator Massicotte and we have about 20 minutes remaining.
Senator Massicotte: We all agree that there is significant benefit to the system of having a widely accepted credit card and debit card system. Mr. Ware, you consider yourself a competition economist. History has shown that society benefits immensely from a competitive system, and we all agree on that point, also.
The issue becomes more complicated in this market. There seems to be an acknowledgment, and many witnesses are saying, that merchants do not have enough negotiating power, or are not at the table when fees are negotiated. The question is: Are the fees as low as they should be? We all agree there should be a wide-ranging system.
Let me jump to the debit card system, in particular, Mr. Ware. You say you like competition. I like competition. We know the benefits of competition. However, let me talk about what might happen in this case: Visa said that they would be against the honour-all-card system, there would be immense flexibility and so on. However, given that the merchants paying the fees do not have enough negotiating power, even with the debit card, will we see the system emulate the credit card system whereby, within a short period of years, the Visa debit card will give significant incentive to the consumer with free trips and so on? With that system, the merchants will find themselves suddenly faced with Visa debit cards that they cannot refuse as they do not want to lose sales.
All of a sudden, they find themselves with significant interchange fees because of the success of Visa of selling their system, irrespective of the cost involved. Interac will be forced to compete, offering the same goodies. We are back to the same system as credit cards, where they have high interchange fees. In spite of the fact that we love competition, the system does not seem to work right now.
What are you comments?
Mr. Ware: I appreciate the concern. I come at this issue in a slightly different way.
I start from the observation that Interac is currently the dominant network. Interac is the one in the monopoly position. It seems a little premature that we need to be concerned about the entrant — make that two entrants — because the entrant will become the dominant player. Maybe it will but maybe not. Right now, that is not the case. Right now, Interac is the dominant player.
I expect that Visa debit will enter — and perhaps Visa MasterCard debit, as well. We will have competition; the first step is to move to a system of competition. I do not see that competition as anything but a good thing.
That competition should benefit everyone: consumers, as well as innovation in the sense of competition to offer attractive products to cardholders.
You have now taken this competition another step and said: We know these companies are huge with tremendous financial muscle, plus they have a big credit card network; therefore, we should be concerned that these companies will become the dominant provider in the debit market.
I do not know if that concern is true. I suppose it is possible. I agree with my friend sitting next to me that Interac needs some changes to its regulatory framework to allow it to compete. However, I do not see any reason to think that Visa debit will be a dramatically more attractive product and will simply overwhelm the market and obtain a dominant market share of its own.
In closing, I would say that this is why we have the Competition Act. Once this market becomes competitive, then it would be under the jurisdiction of the Competition Bureau and the Commissioner of Competition. There would be oversight of that competition in the debit market from the Competition Bureau.
Senator Massicotte: I have one quick question. You are saying, let us jump quickly to the credit card system, per se. You have a couple of dominant brand names — Visa, MasterCard and maybe American Express — and a bunch of merchants that you seem to acknowledge do not have the negotiating power to sit down at the table and negotiate what they consider to be fair.
However, you have a lot of competition on the issuers' side — financial institutions issuing credit cards, of which there are many types — and 94 per cent are Canadian banks somewhere in the system. Would you argue that, in that system, there is adequate competition? As far as the consumer and the issuer go, there is a lot of competition and it benefits from the fact that there is a dualistic or maybe monopolistic fashion of setting interchange rates. However, how that money is spent is determined by an arena of people competing with each other.
Do you consider that system an adequately competitive system that society benefits from?
Mr. Ware: Yes, I do. To correct one thing: I did not intend to say that I agree with the conclusion that merchants do not have enough negotiating power. I do not find the evidence on that subject convincing.
The Chair: Mr. Schwartz or Mr. Dunn, do you want to make a comment?
Senator Ringuette: Mr. Schwartz, I think that your suggestion of a permanent regulatory body looking into the safety of these financial products for Canadian consumers and merchants is a refreshing idea. I think this committee needs to explore that suggestion as it is the first time we have heard such a suggestion. I like it.
Mr. Dunn and Mr. White, it is nice of you to join us all the way from San Francisco. We appreciate your input and yours, as well, Mr. Ware.
I have in front of me a document from the Federal Reserve Bank of Kansas City. It is a study they made in regards to the increased litigation scenario from merchants in the United States in regards to merchant fees. This document is online, by the way.
They have looked into this subject and they reported in April 2008 — one year ago — that the following authorities have implemented legislation in regards to debit card and credit card markets: Argentina, 1999; Australia, 2003; Austria, 2006; Canada, not yet; Chile, 2005; Columbia, 2004; Denmark, 1990; the European Union, 2002; France, 1990; Israel, 2006; Mexico, 2006; Panama, 2003; Poland, 2007; Portugal, 2006; South Korea, in 2008 were in the process of putting forth legislation; Spain, 2005; Switzerland, 2005, Turkey, 2005, Brazil, 2006; Hungary, 2006; New Zealand, 2007; Norway, 2004, South Africa, 2004; and the United Kingdom in 2005, 2006 and 2007.
Mr. Ware, have you looked at all this legislation in all these countries and, if so, what are your comments about it?
Mr. Ware: I have not looked at all of it, I confess. I looked at the Australian and the British cases, and I may have looked quickly at the document you are holding. I do not know, for example, the details on what all those regulatory interventions are; namely, what is regulated. It is understandable that people become concerned about credit card markets because they can be difficult to understand, given some of the peculiarities. For example, people wonder why interest rates on credit card balances are about three times greater than the market interest rate.
Senator Ringuette: You have looked at the U.K. model but not at all the others.
Mr. Ware: Yes.
Senator Ringuette: In your research, have you looked at why the merchant fee on a credit card transaction is based on a percentage of sales including sales tax and the merchant fee on a debit card transaction is based on a per transaction rate? Why is there a discrepancy?
Mr. Ware: Remember that a credit card transaction is a potential loan.
Senator Ringuette: That the merchant pays.
Mr. Ware: Are you asking why the merchant fee is a percentage of the credit card transaction?
Senator Ringuette: Yes.
Mr. Ware: My apologies. I suppose it could be because payment is guaranteed for the transaction. The correct answer is that I have not thought about that. No, I do not know the answer.
Senator Ringuette: Mr. Dunn and Mr. White, have you conducted any study for the Government of Canada, for the merchant association of Canada, for the banks of Canada, for Visa or MasterCard or American Express or other credit card scheme in Canada?
Mr. Dunn: We have conducted research. I was at that meeting in Kansas City, so I am familiar with it. Each of those countries that you listed had their own set of particular circumstances at the time when they looked at this issue. In Latin America, for example, merchant discounts and interchange fees were calculated, and the banks split a certain percentage of the merchant discount, with some of it going to the issuers and some to the acquirers. In many cases, those two entities owned the processor through which all transactions were processed. It all came back to them and they split the profits.
Senator Ringuette: We have the same situation here.
Mr. Dunn: One can look at a list of countries and their legislation but the circumstances are different in each country.
Senator Ringuette: Coming back to my original question in respect of what is happening in Canada, you said that you have conducted studies on the payment systems in Canada. For whom have you conducted those studies?
Mr. Dunn: We have conducted some work for the associations or card companies and some in the banking system.
Senator Ringuette: You have not conducted a study of merchant associations.
Mr. Dunn: No.
Senator Ringuette: Thank you.
Senator Fox: I have a concern with merchant acceptance rules. First, the no-surcharge rule prohibits applying a surcharge on the use of credit cards rather than on other means of payment. In my view, that rule is discriminatory because the person who wants to pay in cash is discriminated against. I think you understand my point.
Second, it seems that literacy does not work. I recently received a credit card from one of the big five Canadian banks, with an interest rate of 24.2 per cent on purchases and on cash advances. Obviously, it means that the approach works. Anyone will tell me that there are about 15 different interest rates available but if one of the largest Canadian banks sends out a card with a rate that high, it is because there is a take-up rate.
Another large Canadian bank has a policy of saying that if cardholders make a partial payment in one month, they must make two full payments over a two-month period to avoid paying interest. Not all cards have that policy. It is an indication that Canadian banks do not believe that literacy works and that they are able to impose this kind of situation on people.
For the merchant acceptance rules, we are imposing a practice that likely they would rather not have.
Mr. Schwartz: I agree with you completely.
Mr. Dunn: Your comments speak to the issue of disclosure — I would not call it literacy — on the issuer and on consumer side, and there is room for improvement.
Senator Fox: I am of the view that disclosure does not work.
The Chair: We heard that evidence from Mr. Schwartz.
Mr. Ware: I agree.
The Chair: Are we sure we know what Mr. Ware is agreeing to?
Senator Fox: I am happy with the answer.
Senator Moore: My intervention deals with the financial literacy issue. The underlying idea of financial literacy is blaming the victim of the transaction. It says to the victim: You should have known better. Where is the institutional literacy? We have heard comments from witnesses today that a credit card statement should say exactly what is involved. I do not think the merchants know what is involved when they are given an agreement; and I do not think the consumer knows. It all goes back to the issuer, the rules, the rates charged — whether by a bank or the issuer of the cards, and the statements provided monthly or otherwise to the consumers as to their obligations. We are being sucked into the idea by the big companies that the consumer is at fault. The consumer is paying the freight but he is also at fault. That thinking is wrong. Are there comments?
Mr. Dunn: I agree with your statement with respect to the little consumer not being at fault. However, I also believe there is a responsibility on the industry side to ensure, as is the case with a loan, that the terms are clear as to how it will affect the specific customer. I said that there is room for improvement along those lines. As well, when merchants sign up with an independent sales organization or an acquirer, they should know what the specific terms are for them.
To the extent that the issuers can do the same thing to an individual consumer within a reasonable economic framework, the industry has that responsibility.
Mr. Schwartz: I agree completely. The blame is exactly like that placed on low-income homeowners in the U.S., who are told they have brought down the western economic system because they bought houses at exorbitant interest rates. Not always, but often enough, the victims are blamed.
Senator Goldstein: Thank you, gentlemen, for coming to enlighten us. I have two areas of questioning. I will ask them both, and I appreciate we have no seconds left.
I find it difficult to accept the proposition that there is competition in the marketplace. There is, in fact, the duopoly of Visa and MasterCard, to all intents and purposes. If they were to increase unilaterally their interchange rates by 5 per cent tomorrow morning, leaving aside for the moment competition questions as to whether they would be subject to review by the Competition Bureau if they did it simultaneously, the consumer would not know about it, and the merchant could not do a darn thing about it. The merchant cannot do anything about it because the merchant is compelled to accept those cards and, indeed, to accept all cards issued by the issuer even though there are widely varying interchange rates attached, for instance, to premium cards, where the premium card is issued for purposes of gaining market penetration. The merchants find themselves paying for the card issuer's desire to increase penetration and persuade more cardholders to hold a premium card.
Merchants de facto cannot compete. I know technically they can, but de facto there is no competition. Consumers cannot compete or participate in a competitive process because there is no organ for consumers to have their voice heard. Nobody else is interested in competing. The banks are not interested in reducing or rationalizing their rates.
Within all of this issue, the consumer who does not use a credit card pays for the consumers like me who use premium credit cards because merchants build into their prices an amount that will reflect the cost of credit cards.
Personally, I find that approach difficult to accept. Why do you think this approach is appropriate, because I think it is not appropriate? We were told by other witnesses that the consumer can go to a shop and say: I want to pay cash; what is my discount? I tried that in four stores right here, and the cashiers did not know what I was talking about, so that option does not exist. Everyone around this table says it does exist, but if they go downtown, it does not exist anywhere, as far as I am aware. What kind of competitive system is it when the two intervenors who control the market have no interest in reducing their rates because they have penetrated as much as they have to? Why is this system a free, competitive market when we all know it is not?
Mr. Ware: I will quickly qualify one thing. I believe a competitive process would operate, in your hypothetical example, whereby interchange fees were increased by 5 per cent overnight. Effectively, the market is two-sided. It increases the costs of the merchant most likely, straight away, but all merchants are affected the same, so it effectively acts like any other cost increase on merchants. In the long run, eventually merchant prices will go up by that amount, but that does not put any of them at a disadvantage with respect to anyone else because it has happened to all of them.
Senator Goldstein: Consumers pay for that increase, do they not?
Mr. Ware: Yes, they do, but on the other side of the market, at the issuing level, the card issuers will be better off with all that interchange, because that is where the money goes. Competition among card issuers will intensify and will lead them to give some of that money back to consumers in the form of more rewards, reducing their card fees, or possibly even reducing their interest rates.
The Chair: Professor Schwartz or Mr. Dunn, do you wish to comment?
Mr. Dunn: These premium cards were introduced into Canada recently, but the evidence in other jurisdictions is that there is a substantial lift in average sales to merchants of most types from premium cards, so even to the extent that eventually a small percentage will be passed through in the merchant discount, their incremental sales are substantially larger.
Mr. Schwartz: I am an economist by training, so I am not against competition. However, all the models that Professor Ware is talking about assume fully informed rational agents. In this case, I do not think any of these agents are fully informed or entirely rational, especially on the consumer side.
Senator Massicotte: This point is the crux of the issue that Senator Goldstein raised. You admit that the Visas of this world have the power to increase the interchange to 5 per cent. Given the negotiating power of the merchants, you seem to accept that they would have no choice in that matter. Your argument says that irrespective of that part of the transaction where there is not enough competition, the benefit obviously goes to the issuers, which then causes competition. With another form of consumer, the credit card market, there is enough competition to offset the first part, so there is a reallocation of costs. The consumers of groceries and the consumers of retailers incur costs higher than normal if there is an increase, but you say the beneficiary is the other form of consumer, the person who bought the credit card. The problem is not competition, but a misallocation or reallocation of cost. Is that a good summary of what we seem to be saying?
Mr. Ware: Yes, I am trying to be brief. I do not think it is necessarily a misallocation of costs. It would be a reallocation of costs. In an extreme case, it could have no effect, or no real long-term effect. Your point on Visa is that Visa's objective is to balance the interests of the merchants and the issuers, and the interests of the network as a whole. There was an issue here about whether Visa is controlled by managers or by its members, but we do not have time to discuss that issue.
The Chair: Thank you to all our witnesses. Senators wish to ask more questions, and that is evidence of the interest you have raised with your testimony.
[Translation]
(The committee resumed.)
The Chair: The second part of our meeting this morning will give us an overview of Quebec retailers' and independent grocers' views on credit and debit card issues.
[English]
In particular, our witnesses are from the Canadian Federation of Independent Grocers, John Scott, President and Chief Executive Officer, and Gary Sands, Vice-President.
[Translation]
And as part of a Quebec coalition of retailers, we will be hearing from Mr. Gaston Lafleur, President of the Conseil québécois du commerce de détail, Pierre-Alexandre Blouin, Director of Public Affairs for the Association des détaillants en alimentation du Québec, and Danielle Chayer, Vice-President and Director General of the Association des hôteliers du Québec. Welcome to you all. We will start with Mr. Scott.
[English]
John Scott, President and Chief Executive Officer, Canadian Federation of Independent Grocers: Thank you for the opportunity to meet with you today. The Canadian Federation of Independent Grocers, CFIG, is a non-profit organization founded in 1962. We represent about 4,000 independent and franchised retail grocers across Canada. We are a respected national organization. We speak with a unified voice in virtually every venue of the industry and government. You have a copy of my presentation and I will paraphrase elements of it.
It is important when talking about credit card fees and the proposal by Interac that we put some context around the issue. You need to have some understanding of the unique situation of independent grocery retailers in the Canadian market.
The $72 billion retail food industry is highly competitive, but it is also highly concentrated. Almost 85 per cent of our food distribution rests in the hands of five major corporations. However, statistics show that independent grocers account for 40 per cent of the retail food sales.
This dichotomy is explained by understanding that independent grocers, who are not large enough to buy products directly from the manufacturer, must garner their goods from the wholesale operation of one of the major players. Canada is the only country in the developed world where a company can operate retail stores, franchises and wholesale operations in the same market — in essence, competing against themselves.
In this difficult environment, to stay on the field — we do not call it a level playing field — it is critical that the independent grocer be significantly differentiated from all other competitors. Product knowledge, support for the community, fresh and unique products, featured local products and enhanced services are some of the facets of differentiation. That is why we, as independent grocers — whether ethnic, unique, specialty or simply great neighbourhood stores — are appreciated and embraced by the Canadian consumer.
Given the high concentration of the market, you can imagine how hard it is for us to retain a competitive position. Independents always need to be price competitive. That does not always mean the lowest price, but independents must have an image backed by reality that their pricing structure is fair. Critical to the development of a fair pricing structure is careful attention to all elements of cost. To the maximum degree possible, the independent must have some degree of certainly in their cost structure.
One of those cost centres is the expense associated with financial transactions of the growing and ubiquitous use by the consumer of debit and credit cards. Acceptance of these cards in a retail food store was a "nice to have'' at one time, but today acceptance is a "must have.'' I think it is fair to characterize these methods of financial transactions as almost public utilities that are as necessary to the welfare of the business as electrical power or even publicly travelled roads to the store.
The distributors of these cards have become expensive and truly unexpected partners in our businesses. Some control over the expense associated with our new partners' cards, together with a modicum of cost certainty are essential to the well-being of the independent grocers who add so much richness to our Canadian economy.
I will not repeat the endless statistics and percentages that you have been bombarded with through the course of these hearings. The crux of the issue from our perspective is the fact that Visa and MasterCard control 94 per cent of the credit card market in Canada. This control enables them to continue to impose and adjust high fees to both retailers and consumers. Based on their history, the planned move by these two corporations to enter the debit card market suggests there will be an upward trajectory of fees in this area in the future.
Visa and MasterCard have taken a great deal from our retailers in the past 18 months. We know that the new enhanced credit cards, which have been marketed extensively to the public, have resulted in an unexpected double-digit fee increase to the retailer. There is no cost certainty here and no ability to control the cost base.
When discussing this concept with various officials in both government and the banking industry, it has been suggested that the retailer simply not accept the cards. How naive is that suggestion? Simply put, the consumer is told by the issuer that the cards are accepted at all retail outlets. The retailer, regardless of size, must accept all cards or lose a percentage of customers.
Look at the situation in a different way. How can we possibly train our front-end staff to accept one type of Visa or MasterCard and refuse another? How do our members or their staff know which cards are enhanced?
We are strongly of the opinion that these fee increases will force some of our members out of the market if they are allowed to continue on their present unchecked course with no accountability or caps. The profit margins in the grocery industry are razor thin. An independent retailer does not have the clout to negotiate a lower fee that perhaps can be negotiated by the small number of large corporations who control the majority of our market.
For the independent, disproportionately higher fees challenge the competitive landscape of the market as a result of higher costs to the consumer. In such cases, independent grocers will become less competitive through no fault of their own because of cost pressures.
The possibility of this outcome should be unacceptable to our society. Everyone should be concerned about the impact these fees are having, and will continue to have, on the price of all commodities.
Let us be clear. When small businesses such as independent grocers are faced with ever-changing, uncontrollable external cost structures, they are forced often to consider going out of business. Many elements of our society will suffer harm including local employees, consumers, local producers — do not forget we buy local — and the loss of the rich diversity they bring through their entrepreneurship to the Canadian economy.
Honourable senators know we are not alone in this regard. Every political party cites small business as the backbone of the economy in every election campaign. If that concept is true — and you all subscribe to it — why would we as Canadians want to make business more difficult through the endorsement of uncontrollable cost elements?
I want to address the debit card and Interac situation. This issue is significant for our members. The reality is that debit cards are much more prevalent in our stores than cash or credit cards. In fact, 60 per cent to 70 per cent of the transactions in our stores are made with debit cards. Debit fees to the retailer are based on a fixed number of cents per transaction. Independent grocers are already at a disadvantage to the major players because they cannot negotiate transaction rates at the same level.
However, through the non-profit status and operation of Interac, we have arrived at a reasonable degree of certainty in the cost structure, and we compete on that basis. We compete on the basis of certainty, and that certainty is critical. Any adjustment to that system, or — critical and scary — a return to a percentage-based transaction, will exacerbate the cost differential and will put a lot of small-business people in serious trouble.
That is why it is imperative that, if the major credit card companies issue a debit card system here, it should operate under Canadian rules developed here, in our own Houses of Parliament. It is imperative that we continue to maintain an accessible and equitable debit card system in this country.
We have yet to hear a convincing argument as to why a debit fee should have anything to do with the size of a grocery bill. The money is transferred from the consumer's account to the issuer in a real-time. It is not a credit charge. It is not a loan. At the present time, no justification is required because the system is unregulated.
Canada has allowed a unique system to develop in which our independent grocers currently operate. Open, unregulated systems have created huge challenges and the situation has already been exacerbated by unwarranted charges from value-enhanced credit cards.
It is now imperative that we develop a fair, made-in-Canada payments system. My brief contains more information, but I think that is enough and I thank you, senators, for allowing Mr. Sands and me to appear before you today. We look forward to your questions.
The Chair: I appreciate the clarity and brevity of your presentation.
[Translation]
We are going to move right on to Mr. Lafleur. Welcome to the committee.
Gaston Lafleur, President and Director General, Conseil québécois du commerce de détail: Mr. Chair, my name is Gaston Lafleur and I am the President of the Conseil québécois du commerce de détail. I am speaking on behalf of a coalition of Quebec organizations representing retailers in the food and non-food sectors, as well as restaurateurs and hotel operators.
[English]
First, on behalf of the members of the Quebec coalition, I want to thank the committee and its members for the opportunity to present our views on the Canadian payments system.
[Translation]
Our members' businesses are located throughout Quebec, some are in the rest of Canada, and a few others are located elsewhere, in the United States. They employ, at least in Quebec, nearly one million people. Our members include large and small businesses, chains like franchises, and independent owners. I have been the head of the CQCD for more than 20 years, and I must say that I have rarely seen so many of our retailers mobilize around an issue. In fact, retailers rarely call for market regulation. It even runs against the grain for the large majority of our respective members.
Why this level of mobilization around an issue as complex as it is dry? Because retailers feel trapped in a voluntarily complex system. Despite their economic and commercial weight, they have no power to negotiate with the credit giants, like Visa and MasterCard, which hold more than 94 per cent of the market in Canada.
Businesses must absorb the increases and try to keep prices as low as possible for consumers. Unfortunately, that will impossible. I will try to be brief, because I know that you have already heard from a number of stakeholders on this matter. I will go straight to what retailers want to tell you and then I would be pleased to answer your questions.
Here are the facts on the debit side: debit card payments are efficient, inexpensive and popular among consumers and retailers. We are convinced that if granted, the change in Interac's corporate status, as well as new competition from Visa and MasterCard in the debit market, could lead to the introduction of fees similar to those in the credit market. The consequences of introducing these new fees would be very significant for retailers and would have a direct impact on prices.
Let us look, for example, at the food retail sector. My colleague Pierre-Alexandre Blouin from the Association des détaillants en alimentation will be able to provide more clarification if you so desire during the question period.
The average cost of an Interac transaction for members is about $0.03. The vast majority of transactions for businesses he represents are debit card transactions. If the rate were to be made similar to the one in effect for Visa debit transactions in the United States, these transactions could cost $0.15, in addition to three quarters of one per cent of the purchase. Can you image the consequences? How would it be possible to not transfer those costs on to consumers?
In the case of debit: "If it's not broken, don't fix it!''
We understand the need for technological innovation. We have been paying system fees forever, and we are aware that investments in the network technology and for protection are necessary. Where we want to set a limit is on implementing an interchange fee system similar to the one used for credit card payments which for the most part is used to fund promotions and rewards instead of the system itself.
Here are our recommendations on debit: Visa and MasterCard should not be authorized to enter the Canadian debit market with the possibility of introducing interchange fees or other fees based on the value of the transaction. The setting of debit card transaction fees should be transparent and based on the system's operating costs. Interac's change in corporate status, if granted, should require the same conditions.
Now let us look at credit. Here are the facts faced by retailers on the ground: credit cards have become indispensable for both consumers and retailers. Let us look, for example, at the hotel industry, a topic my colleague Ms. Chayer will be able to tell you more about during the question period. Ninety-five per cent of transactions in that sector are credit card transactions and often the ones with the highest rates. A payment system as well as a management system are both adversely affected by the increase in and increased number of rates. When converted into dollars, the increases in recent months are alarming. Increases for hotels range from $11,000 to $65,000 per year.
Once again, how is it possible not to transfer these costs on to prices? Transaction fees for retailers are increasing significantly. The businesses that we represent have undeniably felt these increases.
The contracts and the structure of the transaction records do not give retailers any leeway to improve their fee management. Retailers also find it frustrating that the majority of fees they pay are not used to manage or protect the network, but instead for marketing and rewards. You have also heard talk about the increasing number of rewards cards on the market which come with much higher fees. Consumers are encouraged to use these cards much more frequently. So retailers are paying for marketing to encourage consumers to use these cards which cost them more.
We recommend that Canada regulate the credit cart payment system. The Canadian system could be based on the Australian model on the real costs of the payment system, with more transparency and flexibility required, especially for contracts and records provided to retailers. As a result, the number of rates should be significantly reduced. This number could revert back to a single rate if the rigid conditions for contracts do not change.
We cannot overemphasize the importance of this issue for businesses, consumers and the health of the credit and debit card systems, which are essential.
The Chair: Thank you for such a clear presentation.
Senator Hervieux-Payette: Mr. Lafleur. I have two and a half questions for you. The first one is easy. What percentage of transactions in food stores are made using credit cards, debit cards, and cash? I see more and more people using cards when I do my groceries.
At one point, shoppers were not allowed to use a credit card in a supermarket. Now you can buy food on credit, with a debit card or with cash. I would be interested in seeing a chart on changes in that area if you have one, as that affects the whole picture. Do you want to look for it, while I ask you another question?
[English]
Mr. Scott: As a general answer, all rates for credit cards are negotiated. There is no fixed rate. Major corporations, some of which have their own cards, pay little. Debit card transactions are set at cents per transaction, with some people paying as much as 7 cents while some major corporations pay less than 1 cent per transaction. Credit cards are based on a percentage fee of anywhere from 1.75 per cent for a grocery retailer and down. Perhaps Mr. Blouin has more accurate data.
[Translation]
Pierre-Alexandre Blouin, Director, Public Affairs, Association des détaillants en alimentation du Québec: Depending on the type of business, the ratio changes. The ratios are different for a supermarket, compared to a neighbourhood grocery store or a convenience store. On page 18 of our brief, as well as on page 7, you have a table; it was cut in two to fit in with the page layout of the brief. Despite what you may think — at least for the businesses that we represent — the debit rate is more or less significant. That has a major impact on costs for us, but it represents 10 to 15 per cent according to the business.
However, debit is very well-established in our sector: it can reach 50 to 55 per cent, and it is 30 per cent on average; the rates are, for supermarkets: 39 per cent; for grocery stores: 26.7 per cent; and for convenience and specialized stores: 39.5 per cent. There are highs and lows.
Changing from a transaction-based method of payment to a percentage-based method of payment would clearly be dramatic for our members.
Senator Hervieux-Payette: If I understand correctly, large chains — and in food we also see this at COSTCO; they have only recently started accepting debit cards — the fee is 1 cent whereas for the neighbourhood merchant, it is 7 cents?
Mr. Blouin: Exactly. You also have sample rates: of course they are averages, they are not the perfect answer, but there are rates that vary considerably depending on the type of business and transaction volume. The problem is that now, even large players are having trouble negotiating good rates. Everyone's rates are very high. In the past, we had a preferential rate over other types of businesses for the introduction of the debit card payments. As far as we know, these advantages have now disappeared.
Senator Hervieux-Payette: As regards cash payments, since consumers shop close to home because neighbourhood stores are close by, could the consumer be given a rebate or other benefit? In this case, you are competing with large chains; what mechanism would interest someone more, given the fact that you are buying in smaller quantities? For your information, I worked at Steinberg, and I know the difference in price for products compared to a small merchant. Is paying with cash something people promote or is everyone resigned to using cards? Lastly, are there not more advantages to taking money out of the bank?
Mr. Blouin: I am going to answer before giving the floor to John who, I believe, will be able to elaborate. A large percentage of transactions are made using cash. But what would be really good for us would be the possibility of offering a reward for paying by debit card. In the current market conditions, that would be beneficial for us. Bear in mind that there are also costs associated with cash.
That type of in-store promotion is currently forbidden. That is one example. Each business could have different needs and in our case that would be it, as our costs for debit card payments are better.
[English]
Mr. Scott: It is interesting that Canadian consumers have embraced the debit card system. We have a high percentage of consumer transactions in Canada at about 60 per cent to 70 per cent. To our joy, Canadians are more reticent to use their credit cards to buy groceries. I like the idea that people are not borrowing money to purchase basic groceries. The increased use of debit cards indicates that consumers consider the debit card as cash. The ability to differentiate would be almost impossible. I do not know how we would do that.
[Translation]
Senator Hervieux-Payette: I will wrap up on this; in the end, you are recommending eliminating competition between large and small businesses, as the large ones are better off. Moreover, small neighbourhood stores could virtually sell seasonal local products. We are here to serve consumers and to understand what parameters you are looking for so that all clients are treated equally. In other words, if the transaction costs 5 cents, it is 5 cents for everyone, large and small alike.
[English]
Mr. Scott: As I said in our brief, the issue is cost certainty. Currently, we survive in that market where scale is a reality. To be an independent grocery retailer or smaller in this market, they must be extremely entrepreneurial and they must be good at it. Costs are an issue. If, suddenly, unanticipated costs come from left field, such as enhanced credit card fees — layered costs on some of our people — the situation becomes difficult.
First, independents will look after the consumer better than anyone else in this country. We are looking for cost certainty in the marketplace, similar to what we have had under the Interac system. That is what we are looking for.
Gary Sands, Vice-President, Canadian Federation of Independent Grocers: I have a brief comment on a previous statement. I believe it was Mr. Ware who said that these rates will impact on businesses equally. That statement is simply nonsensical. With all due respect, that gentleman has probably never worked in a grocery store. He has no knowledge of how our industry is structured and how it works. We were taken aback by that statement.
[Translation]
Senator Fox: I am struck to hear you say that people are using debit cards over credit cards. Given that 70 per cent of people pay off their credit balance and pay no interest, especially if they use high-priced rewards cards, why are people paying with their debit cards, when that does not give them anything, compared with paying by credit card? Do you have an idea on that?
Mr. Blouin: The answer is very simple. They have been taught to use their debit cards. They have been given an opportunity to not carry around much cash, to show up at the grocery store and to pay based on their means, without going into debt by over-consuming food products. A link was created and people have bought into this method of payment. Of course, credit payments are also changing in our sector. Over the past two years, there has been a four per cent increase. That may seem small, but in terms of costs for us, it means a 37 per cent increase. Imagine if that figure were to double; it would be very difficult to bear.
[English]
Mr. Scott: You were talking about financial literacy in the previous presentation and, with respect to grocery purchasing, the majority of consumers practice financial literacy in that they have the money to pay for those grocery products. It is interesting that the percentage used in the grocery system is substantially lower than debit.
Senator Fox: The thing I find odd is if consumers pay with a premium card, they receive all sorts of air miles or whatever, and 70 per cent or more people using credit cards pay it off monthly. It is wonderful, but I find it surprising that they do not use the credit card, particularly if they pay it off each month.
Mr. Scott: I think you need a sociologist to analyze that use. That is only the grocery sector and we should feel good about that.
[Translation]
The Chair: I will ask Mr. Lafleur for the last word.
Mr. Lafleur: Mr. Scott's comment is, in fact accurate. In the non-food sector, credit cards do have a wide margin over debit cards. As was mentioned earlier, there was a time in Quebec when you could not buy a bottle of wine or food with a credit card. Today, the debit card is seen as money and changes in attitude occur gradually.
The Chair: You have a rather unique industry.
Senator Hervieux-Payette: Profit in the industry is generally about two per cent.
Mr. Lafleur: Yes.
Senator Hervieux-Payette: For the record, I think that is something that needs to be pointed out. Seeing credit and debit card profits of two billion out of six billion means that the credit margins are not the same.
The Chair: Yes. A lot of volume is required to offset the margin.
Senator Ringuette: Thank you for your comments. I have bad news for you. Consumers mainly use their debit cards for their purchases in your grocery stores, but Visa and MasterCard know that as well and have decided to launch an advertising campaign on TV explicitly in grocery stores where we see two women: one who pays cash and the other who pays with her Visa card and says to the other one: "I made $2 doing my groceries. What did you make?''
That ad specifically targets your industry. Its main purpose is to encourage clients who use their debit cards to pay with their credit cards. That is the bad news, and it is real given the huge marketing capability of the two giants.
Mr. Lafleur: And where is the good news?
Senator Ringuette: The good news is that some witnesses who have appeared have said that there is competition in the credit card market. In dealing with these people, do you not think it is a coincidence that the two giants are adjusting their fees almost simultaneously?
Where is the competition? That is not competition, it is collusion. I reiterate, this is bad news because in reality, there is no real competition for credit cards. As for Interac, as you mentioned, if changes are made to the system, you will be the main target because of the volume of your sales.
[English]
Mr. Scott: You are right. I will not comment on your middle point, but I will comment on the commercial. First, it is a good commercial. It is playing in prime time right now and it is horrifying. I receive calls from across the country from people saying, where do we pay for this?
It took us by surprise. We are concerned.
[Translation]
Mr. Lafleur: I would be interested to know who paid for the advertising and where the money came from. In other words, there is an advertisement, but does the money not come from the interchange fees? And who pays for these interchange fees? They are paid for by our members and an ad is being run which indeed appears to have a potentially negative impact on one of the contributors that has not been consulted. That is my only comment.
[English]
Mr. Scott: We have to remember scale. Scale is huge. These companies are huge. That is what we have been talking about all morning in our presentation. Scale is a big issue here.
[Translation]
Danielle Chayer, Vice-President and Director General, Association des hôteliers du Québec: I understand that debit card payments are a concern, because the changes have not yet been made.
I would like to give you an example of what may happen in the debit card industry. A year ago, the hotel sector had a single rate of, for example, 1.70 per cent for Visa and 1.68 per cent for MasterCard regardless of the type of card used and the type of transaction.
In our industry, credit cards are mandatory. Without a credit card, you cannot make a reservation in a hotel. Our industry is somewhat of a hostage because of this obligation to have a credit card. The reality in our industry is that swiping the card in one of those famous POS terminals costs us less than taking a telephone or Internet reservation.
None of that existed a year ago. For a year now, we have been dealing with six to eight rates depending on the type of card used. It all depends, for example, on whether the card belongs to an individual, or a company, or if it is a premium card or a foreign card, and if the transaction is completed; it depends on whether someone has the card in hand and swipes it in the bank terminal or if the number is taken over the phone and a certain amount is collected.
All this has led to cost increases of anywhere from $11,000 to $65,000 in one year. We do not yet have all the numbers, but hotel operators are trying to absorb this cost in the current economic circumstances and soon they will no longer be able to do so.
Everyone, therefore, will end up paying and they will not stay one more night just to earn more points. As someone said in their presentation, you do not buy one more bag of apples simply to have more points.
We are really caught because in our sector if there are no credit cards there is no way of operating. That is what distinguishes our industry.
The Chair: May I ask you a question?
Ms. Chayer: Of course.
The Chair: We all know that when we go to a hotel there is the cost of the room, but at the end of our stay we are given the bill and we see that there are taxes, and other additional costs to that of the room.
It seems to me that you are somewhat different from the food industry. If there were a small supplement for the use of a credit card, what effect would that have on your clients?
Ms. Chayer: We currently do not add any additional fees for the use of credit cards because of the contracts we have with the credit issuers.
The Chair: Does that apply to all cards?
Ms. Chayer: To all credit card issuers and to all cards. In some cases there were increases of up to 11 per cent in one year. Hotel operators are starting to do two things. First, they can say to clients: "If you pay cash for a part of the amount we will give you three per cent off'' because we can only act on cash payments. That is not what hotel operators want to do because there is always a risk of manipulating the transaction.
Second, a hotel operator can ask the client for their credit card at the end of their stay in order to run it through the banking terminal.
At the beginning of the client's stay, the card is swiped for management purposes, the client's arrival is confirmed, the lights in their room are turned on, the restaurant is aware that the client will be arriving for a meal. Then the client is asked for his or her card again. Our client services are forced to do a lot of explaining because clients do not understand why they are being asked for their card when they leave when they were already asked for it at the beginning of their stay. Try to explain to a client that this is being done to save some money, that just does not work.
The Chair: Sometimes I am told: Do you have company X's credit card rather than company Y's?
Ms. Chayer: As you know that is illegal under these contracts. Hotel operators in general may be doing that more and more. They will stay to the client: Show me your cards and I will take the one that works for me.
The Chair: Thank you.
[English]
Senator Gerstein: Mr. Scott, I was interested that you indicated your organization was founded in 1962. Can you sketch out what has evolved with independents over the last 40 or 50 years since the founding of your organization? I put that in the context that, if we were sitting here back in the early 1960s we might be talking about the associate of Senator Hervieux-Payette, Steinberg's, and the impact they would have on independent grocers in Quebec. If we were here in the 1970s, we might be talking about the great challenges of the development of chain stores, and in the 1970s and 1980s, the rolling out of shopping centres across Canada and the impact they might have on independents. Independents have traditionally been under great pressure. They have been resilient and are still here today. Can you put that issue into context for us?
Mr. Scott: I give seminars on it, and I invite you to attend one. They go on for about three hours.
This organization was founded in 1962, not for advocacy but so that people could come together for learning. The chains were coming together, and they saw that the opportunity to train their staff by coming together made sense. In the 1960s, we had a proliferation of independent grocers, and most of the major companies in Canada, for example, Sobeys and Loblaws, came out of independent grocers. There is great entrepreneurship in our industry. It is a fantastic and extremely efficient industry. That is all I will say that is nice about the chain side. I had to say something.
In the 1970s, it was interesting that the independents rose to prominence right across the country. They became the dominant players. In the 1980s, the entrepreneurship of the chains in Canada took over, and that is when we saw their dominance: when Loblaws came to the forefront; when Steinbergs tried to move into the Ontario; when Metro moved from a wholesale only company to a public company; when A&P USA expanded more into Ontario; when Safeway in Western Canada expanded its network; and the Overwaitea food group was on the West Coast. There was an awakening in the 1980s. In the early 1990s, in the recession we all talk about, the supermarket chains were in a position to cost-compete as never before, so the independents, who had not invested and sat on their laurels basically for years, fell by the wayside.
Through the 1990s, a new type of independent emerged, which exists to this day. It is entrepreneurial and well educated. No one comes into this market without knowing the competitive structure of it.
What we have come to in our industry is respect between what I think are great Canadian entrepreneurial chains and some amazing entrepreneurial independents. This environment has created a great health for the Canadian system and creates great openings. It is a richness no one else enjoys. I do not know if you have seen the new T&T supermarkets opening here in Ottawa and elsewhere in the country, but they are Asian supermarkets that are part of our organization as well. They are taking a good chunk of the market for that new Canadian culture that is becoming so apparent.
The independents have done well, but they do well today through entrepreneurship, not by being there. The general competitive landscape of this industry continues, and you can imagine what it is like in the current recessionary environment as the consumer looks for more of a value chain.
In the three years prior to 2008, the largest percentage increase growth of any type of food store in Canada was independents. There are a million reasons for that, and again, I invite you to my seminar.
The Chair: We have time for one more questioner. I am happy to share this bittersweet moment with our witnesses today. Senator Goldstein, the deputy chair, is regrettably, and you would not believe this, being forced by an age requirement to step down from the Senate. I will not tell you what age that is. We will miss him, and it is only appropriate that he have the last question.
Senator Goldstein: Thank you, Mr. Chair, and thank you, colleagues, for the opportunity and privilege of serving with you. I will have something more to say about that in the chamber this afternoon.
Thank you for coming to help us understand and grapple with this problem.
I will sound like a broken record. I have asked this question a number of times, but I remain concerned about it. In the final analysis, no matter how rates are determined, and no matter whether they are higher or lower, and no matter whether they are controlled or not, and no matter whether the card is a debit card or a credit card, a credit card or premium card, the reality is that the consumer pays the price because the merchant must build that cost into the price of any product. That is obvious.
The injustice of this situation is that people who do not have credit cards, many of whom do not have the credit facilities to have credit cards, or those who, for whatever reason, choose not to use credit cards, are paying for those who, like me, use premium credit cards and whose cost is built into the price of a product that I buy and they buy. They effectively pay my premium. Can you help us figure out how that situation can be remedied, alleviated or diminished to some extent?
Mr. Sands: Can I say one thing about your statement? It is important for our members to go on the record that if the present trends continue, some independents will go out of business. That is a fact. No disrespect is intended to the chains, and they do wonderful things, but the fact is that when those rates go up, there are many avenues and creative ways that chains can find to help mitigate the impact of some of those costs. The independents do not have that leverage in the market. Independents will go under. I suggest to this committee, with all due respect, that when that happens, that impact is big on the industry, on the communities, and on the on-farm sector, because we are the ones that buy locally. I know what you are saying, senator, about the consumers. You are right, but I want to broaden that impact on the consumer to look at what happens to the industry and this country when independents go under. Communities across Canada lose. We all lose.
Senator Goldstein: Thank you for that. Can you help me with my question?
[Translation]
Mr. Lafleur: I would suggest the following. If a consumer receives specific services or privileges that imply a cost, that cost should not necessarily be shared with those who do not benefit. We would like to establish the practice of the users paying. For example, if someone wants to have a really incredible card that they get incredible advantages with, then a credit card company can charge them up to $500 in order to have a card with those advantages. There is a different in the cost of those cards. To a certain extent, the credit card issuers will probably charge less for an ordinary card. The crux of the matter is that we need a framework that will allow us to develop in an environment where security is given due consideration. This morning I heard someone suggest a security agency. That should be a part of your reflections.
That must be part of the solution. Merchants and consumers are all in the same boat. The competition — if it can be called that — is reverse competition. Businesses are competing in order to attract financial institutions to them. To take Senator Ringuette's example, the incentive is to make sure that the client uses their card. In fact, several transactions are suggested to the client because those transactions generate income that the merchants pay for, income that is then paid to the financial institutions that issue the cards.
As we stated earlier, the consumer may have advantages, and will be given privileges. Yes, but the consumer will have already paid for those privileges. And others will have paid for them without even having that special card. It is a vicious circle. In fact, consumers actually pay for those advantages themselves. And many consumers often pay for the others without even receiving any of the benefits. I think we have all understood the process.
In conclusion, I hope that the committee will be able to suggest solutions that will provide some type of insurance, protection and transparency. I think all of this is essential.
If it were not Visa's and MasterCard's intention to get into the debit card market, I do not think we would be here talking about the necessity of Interac becoming a public company, whether it be for profit or not for profit.
We currently have an excellent debit card system. We are not saying that we do not want to pay for the purposes of improving technology. But if we are moving towards a system where you pay based on the value of the transaction, where you pay for the purposes of additional incentives for the credit card issuers, then I think we have a serious problem.
The purpose of our message today is to make you aware of this problem and to make sure that as Canadians we be able to stand up and say we will not copy the others. We will seize this problem, analyze it and attempt to find solutions that are acceptable for Canadians.
Senator Goldstein: I have one last small question. Would it be possible to suggest to the credit issuers that with each card that they issue, they also have to issue a special card that gives the consumer a 0.5 per cent discount on each transaction? That way consumers would not have to pay the cost of my credit card.
Mr. Blouin: Many people have suggested innovations and investments. You are saying that we should, in a way, reimburse the consumer. I do not know how you would do that, I have a problem understanding that, but I can tell you that there are retailers who currently pay $120,000 a year in innovations and investments for credit card companies. I would like to know how much of their profits they actually invest in innovation. Currently we are the ones paying for that. On average, supermarkets pay $66,000, and a neighbourhood grocery store, $7,700. It is not always up to us to make sure that the consumer gets those advantages. We would like to be able to do some promotion ourselves, for our own stores.
Ms. Chayer: What we want is simply to be able to pay the real costs, and that we be able to use our prices to ensure healthy competition within our industry. We do not want to have to pay for big companies' marketing in order to attract their clients.
The Chair: Thank you everyone. This was a very productive meeting.
(The committee continued in camera.)