Back in theme 1, one of our Senior Advisers asked what has been the best thing since sliced bread? James Jamieson, Technical Specialist and Economist at the PSR, has spent years working as a Competition Economist and thinks competition might be the answer.
He states it is only natural he would consider competition to be able to solve all problems, and make markets everywhere better. To back up this claim, James goes back to first principle and asks himself why competition is generally considered to be a good thing. When does it work well? And will competition be the thing to solve all payments’ ills?
To help him answer these questions, he takes a simplified example to begin with, away from payments.
Beans, Beans, Beans
If I want to buy a tin of baked beans from my local shop, my options are probably a major brand, another slightly less well-known brand, the shop’s own brand, and possibly a budget option. You may argue that 4 different types of baked beans are too many. And that’s just beans; try buying a car or a tent for that matter!
But why have more than one in the first place? Well, the reason goes something like this:
- If I only had one choice of baked beans, the maker of baked beans would set a (relatively) high price, which is just at the point before I start considering whether baked beans are the best thing to be feeding my kids instead of pizza, fish fingers or something else.
- When a second brand enters, the two brands compete with one another on price, flavour, quantity of beans or a mixture of all three. Entry forces both the incumbent and the new entrant to cut out inefficient costs, expand output, reduce margins, put in better quality ingredients and find more innovative ways of getting us to buy beans.
- In theory, the more baked bean producers that enter, the more that price is driven down and quality is driven up to the optimum levels.
Prices don’t necessarily all end up being the same: each tin of beans is a different proposition for customers, from those who value higher quality beans or a particular brand and are willing to pay a bit more, to those who want something which is much cheaper, but may be unbranded, lighter on flavour or the amount of beans in the tin relative to sauce. Each consumer ends up picking the price/quality mix that is best for them. However, one important aspect in this example is that when I choose which baked beans option I want, I face both the costs (i.e. the price) and the benefits (yummy beans!) of my choice.
So, what happens when we move into the world of payments? This is where things start to get a bit more complicated.
Now that I’ve chosen my preferred tin of baked beans, I take it to the till and I then have a choice of payment options. Either I use cash, or a card (debit or credit). If I choose to pay via card, I can do so using the contactless card itself or I could pay via a mobile wallet. So, which one to use? If I’m cost conscious, I may choose based on the price.
If I use cash, it costs me… the price of the beans. If I use a card or mobile wallet, it costs me … the price of the beans again. There’s no difference in terms of price! But there are differences in costs when using these payment methods. It’s just that they are hidden and I, as a consumer, am not facing them directly. This was true even before shops were stopped from surcharging (i.e. charging extra) for certain payment methods.1
So, can I choose based on other criteria? If I chose to use a credit card, I have very different options for recourse if something goes wrong compared to if I had chosen to use cash, as I may be able to claim a refund under section 75 of the Consumer Credit Act 1974. Hence, I may feel using a credit card is a better option for me, but is it for everyone?
On a per-transaction basis, credit cards typically have higher costs associated with them. We know I’m not paying for those, but who is? Well, that would be the shop or merchant. They face the costs of my choice and they don’t necessarily get all the benefits. This is a result of payments being two-sided, with the consumer (payer) on one side and the merchant (payee) on the other side.
A merchant’s choice
But surely, you say, merchants can choose which payment methods the