Matthew Cherry's speech for PSE Consulting Merchant Acquiring Conference, 14 November 2018
This is the text of the speech as drafted and may differ from the delivered version.
Good morning, and thank you for inviting me to speak today.
Earlier this year, the PSR published draft terms of reference for a market review into card-acquiring services. We’re aiming to understand whether the supply of these services is working well for UK merchants, and ultimately consumers.
We plan to get input from a wide range of parties to inform our work. We intend to seek information and evidence not just from suppliers of card-acquiring services, and the merchants who buy those services, but also other parties that help merchants to accept cards.
Many of you will work for firms that can help us understand the relevant issues. So, my primary aims today are to raise awareness of our work and encourage you to contribute to our market review. There are various ways to do that, which I’ll come on to talk about.
I’ll begin by giving you a short introduction to the PSR. I’ll then give you an overview of the draft terms of reference and conclude with a summary of our next steps.
I must emphasise that today’s presentation reflects what we said in the draft terms of reference. We’re currently preparing the final terms of reference so I can’t comment on whether, or how, our thinking has evolved since. That wouldn’t be fair to those not present today.
So, who is the PSR?
We are the economic regulator of the UK payments industry.
Our vision is for payment systems to work well for all who use them – for payment service providers, businesses, charities and all of us as individuals.
This means we want them to be accessible, secure and reliable, and represent value for money.
This is supported by our statutory objectives under FSBRA – the Financial Services (Banking Reform) Act 2013, which is the legislation that created the PSR. These objectives are to promote competition, innovation, and the interests of all those that use payment systems.
We have powers to regulate payment systems designated by the Treasury. There are eight designated payment systems, including Mastercard and Visa.
We regulate all the participants in these payments systems. That is: the operators who administer the system, the PSPs who use the system to provide payment services, and the infrastructure providers who provide the hardware, software and communications networks that allow the systems to function.
As well as being a regulator, we’re also a competition authority. Our competition powers extend to participation in all payment systems, not just those designated by the Treasury.
Since we were established, the government has also given us additional responsibilities to monitor and enforce EU legislation For example, we are the lead competent authority for the Interchange Fee Regulation, which has brought about major changes to the way that card payment systems operate.
The payments landscape is going through many significant changes, driven by new technology and changing consumer needs. We have a varied portfolio of work to help ensure that these changes happen in a way that benefits us all. One example of our work is the market review into card-acquiring services that I’m focusing on today.
What do I mean by card-acquiring services?
In the draft terms of reference, we described them as services to accept and process card payments on behalf of a merchant resulting in a transfer of funds to the merchant.
This may look familiar. It’s based on the definition of card-acquiring services in the Payment Services Regulations 2017, which transposed PSD2 into UK law.
Card-acquiring services matter. Card usage in the UK is high and has been growing strongly in recent years and in 2017, debit cards overtook cash as the most frequently used payment method for the first time. Any merchant that wants to accept card payments must buy card-acquiring services.
One way to do this is to buy these services from acquirers. You’ll all be familiar with acquirers as firms that are licensed by a card scheme operator to give merchants access to the card payment system and underwrite their transactions among other things.
Merchants – typically smaller merchants – can also buy card-acquiring services from a payment facilitator. The payment facilitator contracts with an acquirer on behalf of the merchant.
The costs merchants incur to buy card-acquiring services may ultimately be reflected in the prices they charge or the products they provide to their customers. The quality of the services they receive may also affect the experience they can offer to customers paying by card.
Importantly, there are a whole variety of services other than card-acquiring services that a merchant might buy to help them accept card payments. For example, a merchant might lease a point-of-sale terminal. Services like this may still affect the supply of card-acquiring services. I’ll come on to explain how we proposed to take account of these services and the entities that provide them.
As I mentioned, we published draft terms of reference for our market review in July. A market review is one of our tools for investigating how well the market for payment systems, or the markets for services provided by payment systems, are working for the people and organisations that use, or are likely to use, these services.
This market review marks a new direction for the PSR.
Since we were established in April 2015, much of our external-facing work has focused on interbank payment systems. Our work on cards has been mainly limited to monitoring and enforcing compliance with the IFR.
We’ll now be devoting significantly more attention to card payment systems. This shift was prompted by concerns our stakeholders raised with us, which I’ll describe in a moment.
We were pleased with the interest the draft terms of reference received – we had over 35 submissions from a variety of organisations, including merchants, card scheme operators and acquirers. These submissions are informing our work to prepare the final terms of reference.
This is already a good response, and we hope that people will continue to contribute as the review progresses. We’re keen to engage with a wide range of stakeholders to inform our understanding of card-acquiring services. As I explained, one of my primary aims today is to encourage you to get involved with our work. Our door is open and we welcome your input.
As well as suppliers of card-acquiring services, we’ll be asking for evidence and information from a variety of other parties – including through information requests.
So, why did we decide to carry out a market review?
In summary, we’ve heard concerns that suggest the supply of card-acquiring services may not be working well for UK merchants, and ultimately consumers.
A key concern is that acquirers have not passed on to smaller merchants the savings they made from the interchange fee caps introduced by the IFR.
To explain, the IFR capped certain interchange fees that are paid from the acquirer to the issuer most times somebody makes a card payment. These fees form part of the Merchant Service Charge that merchants pay to acquirers.
The European Commission’s aim with the IFR was to reduce the costs of card payments for merchants and consumers, and strengthen competition. However, it didn’t cap the Merchant Service Charge itself. Instead, it relied on competition between acquirers to ensure that the benefits of the interchange fee caps flowed through to the merchants, and ultimately reached consumers.
So, if acquirers aren’t passing their savings on to smaller merchants, this could indicate that the supply of card-acquiring services is not working well.
Importantly, interchange fees typically make up the largest portion of the Merchant Service Charge. So, the detriment to smaller merchants could be significant.
A second concern is that there is a lack of transparency around the fees merchants pay to accept card payments. If this is true, it could make it difficult for merchants to shop around – i.e. find and evaluate offers from other acquirers. Ultimately, this could contribute to a dampening of competition.
We’ve also heard concerns about technical and contractual barriers to switching, and that scheme fees and scheme rules may favour larger acquirers.
We recognise that our market review may not directly address all the concerns people have raised with us about card payments. For example, we proposed in our draft terms of reference that the market review would not look at whether scheme fees are excessive - although we said we would gather detailed data on how they’ve changed.
It’s important that any market review is practical and proportionately focused on specific issues. We have decided to focus on card-acquiring services because – as I’ve just outlined – a number of concerns raised with us indicate that the supply of these services may not be working well for merchants and ultimately consumers.
Moreover, we said in our draft terms of reference that we would expect any problems relating to card payment systems to materialise largely through the charges and services merchants receive from acquirers and payment facilitators. Therefore, focusing on card-acquiring services is an appropriate first step in examining stakeholders’ concerns. If we find evidence of potential detriment that does not relate to the supply of card-acquiring services, we’ll consider investigating it separately to this market review.
The proposed scope of our market review.
We recognise that this diagram significantly simplifies reality. For example, it doesn’t show all the parties that might provide services to merchants to help them to accept cards. We created it to illustrate – at a high level – the proposed scope of our market review.
We proposed to examine the supply of card-acquiring services by acquirers and payment facilitators to UK merchants.
We don’t intend to limit our scope to any particular types of merchant. We appreciate that a merchant’s experience of buying card-acquiring services may differ depending on various factors, including their size and the products they sell. We plan to explore this through the market review.
I mentioned earlier that there are a variety of services other than card-acquiring services that merchants can buy to help them accept card payments. These services may be provided by acquirers and payment facilitators. Or they may be bought from third parties. We proposed that products and services that are related to card-acquiring services would be in scope insofar as they affect the supply of card-acquiring services.
Acquiring services for all card payment systems operating in the UK are in scope. But, in assessing them, we proposed to focus on these services in relation to Mastercard and Visa. This is for various reasons including that Mastercard and Visa-branded cards account for the vast majority of UK debit and credit card payments, both by volume and value.
Lastly, we proposed to limit our scope to acquiring of card payments. But we recognise that merchants may buy acquiring services for other types of digital payments. Testing whether merchants have credible alternatives to accepting card-acquiring services will also be part of the market review.
How do we plan to examine whether the supply of card-acquiring services is working well for UK merchants and ultimately consumers?
We proposed to understand how competition in the supply of card-acquiring services operates. This includes examining several areas.
What are the nature and characteristics of card-acquiring services?
Who provides card-acquiring services and how have their market shares developed historically?
How do suppliers of card-acquiring services compete for merchants?
And how do merchants buy card-acquiring services?
We also proposed to examine the outcomes of the competitive process. This includes looking at the fees merchants pay and the quality of the service they receive.
A key task is to analyse how Merchant Service Charges have been affected by changes in interchange fees and scheme fees. This involves gathering detailed data on both.
In the draft terms of reference, we identified three specific issues of interest for the market review, based on stakeholders’ concerns. We don’t yet have a view on what impact, if any, these issues might have on the supply of card-acquiring services. Rather, they are intended to help to guide our analysis.
The first issue we want to examine is whether there are barriers to entry or expansion for suppliers of card-acquiring services. These could include technical, contractual, legal or regulatory barriers, economies of scale, or something else.
Barriers to entry or expansion can make it difficult to offer card-acquiring services, or to grow as a supplier of these services. They could therefore reduce the competitive pressure on established suppliers. Barriers could also make it difficult for a new supplier to launch innovative products.
The second issue we want to explore is whether merchants face barriers to switching or searching.
For example, merchants could face barriers when they gather information about card-acquiring services, when they compare card-acquiring services and when they switch between card-acquiring services, including technical and contractual barriers to switching.
Barriers to searching or switching can make merchants more inclined to accept price increases or reduced quality of service. As a result, prices may be higher, or quality of service lower, than would have been the case if searching and switching had been easier.
The third issue we want to explore is whether there are factors that might prevent the offering of services that help merchants make decisions. Outcomes for merchants might be better if there were services available to help them make better choices about card-acquiring services.
This would particularly be the case if merchants face barriers to searching for suppliers.
We’ll consider if any of the three issues I’ve just described – or other issues – might give acquirers market power over some or all of their customers.
One final point on our proposed approach. In carrying out our market review, we recognise other developments could affect card-acquiring services, including the implementation of PSD2, the EU Commission’s review of the IFR and – of course – Brexit. We’ll need to take account of these developments as we progress our work.
We are also already liaising closely with the FCA, which authorises and supervises payment service providers including those providing card-acquiring services.
Our next steps.
Our final terms of reference will explain the scope of our market review, and set out our timetable of work. At a minimum, in line with our guidance on how we conduct market reviews, we will publish a report setting out our interim conclusions, which we’ll then consult on.
After that we’ll publish a report with our final conclusions, taking account of the interim consultation.
We may also publish other documents. If so, we’ll confirm this in the final terms of reference.
There are several possible outcomes for our market review.
One is that we find the supply of card-acquiring services is working well.
Alternatively, we might find that this is not the case. If so, we’ll consider what actions – if any – to take, which could include using our regulatory powers.
To sum up, I hope my presentation has got you interested in our market review. It’s a major undertaking for the PSR that involves an in-depth investigation. This work was prompted by a range of concerns that indicate the supply of card-acquiring services may not be not working well. The draft terms of reference set out our proposed scope and approach. Although the deadline for submissions has now passed, there will be more opportunities to contribute to the market review, and we’re keen to hear from a wide range of stakeholders. Our door is open and if you want to speak to us please get in touch using the email address on the slide.
It’s a big piece of work, with a lot of interesting and sometimes complicated issues at play. And I’m sure we’ll hear a wide range of views about the problems people might be facing. But with your help we can aim for an outcome that underlines why the PSR is here in the first place – to make sure payment systems are working well for everyone.