Regulators, Lawmakers Agree Interchange Measure May Hurt Small Banks

WASHINGTON — Nearly seven months after passing a bill that included a measure to limit interchange fees on debit cards, lawmakers on Thursday were expressing buyer's remorse.

At two hearings, members from both political parties urged Federal Reserve Board officials to delay implementation of the provision, and some expressed concern that it would hurt community banks despite an ostensible carve-out for them in the law.

"Why has it become so critical to do this now?" Rep. Kenny Marchant, R-Texas, asked Fed Gov. Sarah Bloom Raskin at a House Financial Services Committee hearing. "I understand the Fed has been instructed to do it. [But] I would like for you to take more time. I would like for you to consider the impact this is going to have on small and [midsize] banks."

At a second hearing, across Capitol Hill, both Fed Chairman Ben Bernanke and Federal Deposit Insurance Corp. Chairman Sheila Bair suggested that lawmakers were right to be worried. Though institutions with less than $10 billion of assets are exempted from the pending central bank rule, the regulators suggested that smaller banks may still be hurt.

"It may not be the case that, in practice, they are exempt, but I don't know for sure," Bernanke said. "Of course, one way to address it is, if Congress wants to, would be to require the networks to differentiate."

That suggestion was backed by Bair, who said the FDIC is planning to send a letter to the Fed urging it to adopt a two-tiered system in order to ensure community banks are truly exempt.

"We are looking at whether there is regulatory authority and enforcement capability to basically require the networks to do two-tier pricing," Bair said in a brief interview after the Senate Banking Committee hearing. "I think that is really what the question is. If we were able to do that, I think it would be a lot better for community banks."

Community banks have raised concerns about the provision since the start, arguing that, if large banks must limit their fees, merchants may refuse to accept debit cards issued by smaller institutions if they do not follow suit. Both Bernanke and Bair acknowledged such a situation is possible unless the card networks agree to a two-tiered rate system that prevents merchants from taking such action.

But lawmakers said that mandating a two-tiered system may not go far enough.

"If we have a two-tiered system, the amount charged for interchange fees by the smaller banks and credit unions will be higher than those by the big banks, correct?" Sen. Jon Tester, D-Mont., asked Bernanke.

When Bernanke said "yes," Tester continued: "So what stops a retailer from saying, 'I don't want to use that card because it's from one of the small banks. I want to use one of the big ones.' What stops them from doing that? Anything?"

Bernanke responded that such a decision would rest in the hands of the card networks.

Nothing stops that "now … unless the company requires acceptance of all cards, which in many cases they do," Bernanke said.

But Tester said he remained concerned.

"It would seem to me that there is going to be undue harm done to smaller banks when the retailer looks at this and goes, 'You know what, I'm going with the smallest interchange possible because it's going to help my bottom line,' " Tester said. "Do you see it being that way?"

Bernanke reiterated that the statutory language may not be sufficient to protect community banks.

"As I mentioned earlier, I think there may be two reasons this exemption might not work," he said. "One is exactly what you are saying, that merchants might turn down small-bank cards. The other is that the networks may not find it economical to have a two-tiered system."

Visa has said it would support a two-tiered system, but the other card networks have not addressed the issue.

The turnabout on the provision, which was added at the behest of Sen. Richard Durbin, D-Ill., to the Dodd-Frank bill last year, was striking. The measure had unexpected bipartisan support when it was added by the Senate to the regulatory reform measure.

For his part, Durbin sent a letter to Bernanke on Thursday objecting to the central banker's comments, saying he was siding with the banking industry.

"I urge you and the Federal Reserve to recognize these tactics for what they are, and to carry out the implementation of interchange reform as Congress intended — on the basis of facts and not the financial industry's fictions," Durbin wrote.

Since last year, many lawmakers have expressed increasing concern about the measure's impact as banking industry representatives have repeatedly urged them to repeal or delay implementation of the rule.

Speaking to the House panel, Bloom Raskin said the central bank has gotten 7,000 comment letters from the public and recognizes the effect the law may have on debit card issuers.

"In light of the novelty and unusual complexity of the issues raised in this rulemaking effort, my colleagues and I are very interested in reviewing the full range of comments offered on our proposed rule and are reserving judgment on the terms of the final rule until we have the opportunity to benefit from these comments," Bloom Raskin said.

The Fed issued a proposal in December that would limit debit card fees to 12 cents for the largest institutions.

Lawmakers pressed Bloom Raskin on whether Congress should delay completion of the rule until regulators could be sure of its effect.

"The question is whether you would benefit from a further extension of time to evaluate these multiplicity of comments … and go through a more thorough process," said Rep. Melvin Watt, D-N.C.

Though Bloom Raskin declined to weigh in, lawmakers continued to press the issue.

"It is not a question of whether the delay would benefit you, the question is, would it benefit the American people and the financial institutions, the merchants and the people on the ground who have to make this work? said Rep. David Scott, D-Ga. "And the answer is yes. There are some profound questions."

Rep. Jim Renacci, R-Ohio, also advocated a pause in the rulemaking.

"We need to delay this until the point we get it right," said Renacci. "A delay for doing it right is important."

Bloom Raskin acknowledged the complexity and seriousness of the issue.

"I do take your statement very seriously and we are committed to do everything we can to get this right," said Bloom Raskin. "We are hearing all the same kinds of comments that I imagine you are. This is indeed very controversial and we are trying to take everything into account ... while still making sure we reflect what is in the law."

But she made it clear that it was Congress that had required the Fed to complete the rule within nine months of Dodd-Frank's enactment.

"That is Congress' prerogative," said Bloom Raskin. "If you determine these deadlines are unrealistic, then of course we would adapt to those new deadlines. We would most definitively defer to Congress' desire in that regard."

Speaking on a later panel, industry representatives urged lawmakers to extend the deadline.

"We believe it is critical for Congress to suspend implementation of the Durbin amendment and the board’s related regulatory proposal and request an impact study on the unintended consequences on participants in debit transactions, particularly consumers, small businesses, community banks, credit union[s] and other financial institutions," said Josh Floum, general counsel for Visa Inc.

But retailers — who have fought for years to limit interchange fees on debit and credit cards — said any delay would be a mistake.

"Delaying this process would only harm American businesses and consumers," said David Seltzer, a vice president and the treasurer of 7-Eleven on behalf of the Retail Industry Leaders Association.