The merchant fees do fund a substantial portion of the rewards programs for cards.

However, there's a pretty large market for credit/debit card transaction data. Even Google purchases it[1]. Both your credit card company and the payment processors/networks themselves are able to monetize this data quite effectively. And the more complete people's transaction histories get the more effective this data becomes for different uses and the more the companies can charge for it.

Depending on the demographic a particular card is able to capture, the transaction history may be valuable enough to run the rewards program at a loss or break even when looked at purely from the merchant fees recouped.

[1] https://www.washingtonpost.com/news/the-switch/wp/2017/05/23...

Exactly. I'll continue to use my card whenever possible to save at least 2% on every transaction. But this comes at the cost of getting my CC data stolen from shitty POSs 1-2 times a year. Small inconvenience, but worth it.