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Petrol Pumps vs Banks highlights the “who pays” problem for digital payments

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Earlier today: There appears to have been a face-off between banks and petrol pumps over the weekend, and it appears that the banks have blinked. Yesterday, as reported in The Hindu, All India Petroleum Dealers Association had said that they would stop card payments after banks said they would impose up to 1% Merchant Discount Rate (MDR). MDR is the fee that Banks charge merchants for enabling digital transactions. On Sunday, Banks apparently deferred this 1% MDR for a few days, following which the Petrol pumps have also agreed to accept cards till January 13th 2016, according to the Times of India. This probably gives time for negotiation, but it doesn’t mean that the issue has been resolved.

Changes in MDR

Up to March 31st, for Debit Cards, the Reserve Bank of India has allowed banks to charge merchants 0.25% of the transaction value as MDR, for transactions up to Rs 1000, and 0.5% from Rs 1000 to Rs 2000. Earlier, the debit card MDR for banks was capped at 0.75% of the transaction amount for value up to Rs 2000 and not exceeding 1% for transaction amount for value above Rs 2000. Several banks, including SBI, ICICI Bank, Axis Bank and Yes Bank had waived MDR charges on debit card transactions till December 31.


MDR was much higher earlier: before the RBI guidelines, on Credit cards, merchants were charged a merchant discount rate (MDR), an inter-bank exchange fee, of 2.5-1.7% per transaction. On debit cards, they had to pay 0.75% per transaction below Rs 2000 and 1%for transactions above Rs 2,000.

Thus the 1% fee was probably for credit cards, since the RBI already has limits for debit card transactions, but we’re wondering if petrol pumps were even charged an MDR in the past: a 1% fee is much lower than what was being charged before demonetization. If it’s a new fee, then it’s just banks being opportunistic.

Also read: Cash vs Digital Money: why going cashless is going to be tough in India

Who pays?

What’s notable is that the petroleum dealers association has also said that while they’ll accept Paytm, if Paytm imposes an MDR, they’ll stop accepting it as well. This is not about the payment instrument, but about the MDR.

The unanswered question still remains: who bears the cost of digital transactions? Like we mentioned earlier, what is happening with going “cashless” or “less cash”, is that the government is transferring the cost of cash to users: in this instance, the banks are transferring the cost of digital transactions on to merchants, who can either absorb the cost, or can transfer the cost to users. If the government doesn’t allow them to transfer the cost to users, then they’ll have no choice but to refuse to accept digital transactions.

The answer to this question lies in another question: who benefits?The government benefits because of the cost that it has to incur to handle cash. The banks benefit, because the money stays within the banking system, and reduces their need to handle cash. The merchant benefits because its easier for them to manage money, but they do have to incur the cost of renting machines (from banks).

The banks are clearly eager to make up the money they have lost because they waived MDR during demonetization; they’ve become accustomed to viewing this as a revenue stream instead of a means of cost reduction.

Should Customers Pay?

In an earlier post on MediaNama (Cash needs to lose this battle), Anand Raman had said that “Merchants or customers are the only two parties who can/must pay to make business viable for providers. There is no third option.”

“On the face of it, banks lost Rs 47.67 billion by charging for POS transactions and making cash withdrawals free; or they lost nearly four times as much paying for cash withdrawals, as they made on fees from debit card transactions at POS. That doesn’t even include cash withdrawal transactions at bank branches that conservatively cost Rs 40 each.

Arguably, a digital transaction pack for a monthly fee, is not such bad economics? If as a corollary, merchants pay nothing, then what remains to be decided is: how to share revenue from customers buying transaction packs between the ecosystem players.  Merchants may also see investing in this model of acceptance differently if there are no transaction costs to pay. Card is equal to cash.”

Should Banks Pay?

Banks can afford to pay, CapitalMind founder Deepak Shenoy says* (on twitter):

There is about Rs. 10 trillion (10 lakh crores) in current/savings accounts. That earns banks an average of 4% lower borrowing cost. That’s Rs. 40,000 cr. that banks have a profit on in order to provide you with instant payment systems. They use this money to pay for cheque clearing, ATMs, teller costs, electronic payments (to some extent).

Banks also charge merchants for using debit cards. They charge for printing the card. They charge for SMS to let you know card usage. Banks unilaterally have removed NEFT/RTGS charges for customers (most). They don’t charge for local cheques, and with CTS most are local.

Can they absorb merchant charges too? Let’s look at the data. There’s about 9 crore cheques a month with Rs 500,000 crore in value. Cost is incurred for collection, scan, CTS verify, sign match etc., and some human cost. There are about 22 crore POS transactions, about Rs 40,000 crore in value. Cost=merchant acquisition, machine, data.

Prima facie it looks like per-transaction cost (is not related to amount) is much lower for POS cards than for cheques. Probably 1/10th? Banks have no credit risk on a debit card transactions. There are 14 crore such transactions in a month, for about Rs 20,000 crore. Making merchant charges zero for a transaction, would cost the banking system about 1/5th what it costs them for cheques now. Incentive? Banking licenses aren’t on tap, so cartelisation is easy. Which is why regulation can mandate lower fees.

If RBI were to mandate zero fees on debit cards, cashless would indeed be much easier and more acceptable to merchants. If anyone has the data on what it costs banks per cheque transaction and per POS, it’ll validate further. For the record: RBI mandates a zero cost to customers for local cheques. Also, the cost of CTS (the truncation system that nearly all cheques are now) is Rs. 1.5 per cheque.

* note: some edits made for clarity.

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  • sketharaman

    This issue has been debated for ages in developed countries and the verdict is uniform: Merchants must pay for at least two reasons related to consumer behavior: (1) Consumers overspend when they pay by card. This is a direct benefit for merchants. (2) Merchants who don’t accept cards or levy surcharge for accepting card payments stand to lose business. This has been true in countries that didn’t go through demonetization. This is even more true in India in the wake of #CurrencySwitch. Especially in discretionary product categories like white goods, fine dining restaurants, etc. But also in non-discretionary product categories like fuel, thanks to Uber, Ola et al.