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Comment by losvedir | Hacker News Reader

As someone who recently went down a rabbit hole into trying to optimize credit card rewards (and opting for cashback in the end), I'm still kind of perplexed how it all works. Like, who's paying for the flights? Consumers, merchants, airlines, banks?

Is there a good primer on how all the pieces work and what the various incentives are and such? I found patio11's post[0] and this Fed investigation[1], and both were interesting but left me wanting more.

[0] https://www.bitsaboutmoney.com/archive/how-credit-cards-make... [1] https://www.federalreserve.gov/econres/notes/feds-notes/cred...

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Consumers, especially those paying in cash. Merchants jack prices up to account for credit card fees. The fees pay for things like cashback and flights. Typically CC companies don't allow for merchants to have discounts for stuff like paying in cash (although some businesses may anyways...) so customers paying in cash essentially pay extra.

> Typically CC companies don't allow for merchants to have discounts for stuff like paying in cash (although some businesses may anyways...) so customers paying in cash essentially pay extra.

Cash discounts have always been permitted in merchant agreements.

What was forbidden until a couple of years ago was credit surcharges however that restriction was removed in 2013. Unless forbidden by state law they're allowed everywhere in the US.

>Typically CC companies don't allow for merchants to have discounts for stuff like paying in cash (although some businesses may anyways...)

It has been legal in the USA since Oct 2011 for all merchants to offer discounts for cash and debit card use.

https://www.ftc.gov/business-guidance/resources/new-rules-el...

https://en.wikipedia.org/wiki/Durbin_amendment

Many merchants in the US give a cash discount.

A generous interpretation is that this is rewarding the customer for not making the merchant pay credit card fees.

A less generous interpretation is that this is to facilitate tax evasion.

The truth is probably a mix of both.

I have friends with small businesses that basically admitted to the latter.

I'd argue it's actually the people paying interest covering all those rewards. Credit Card companies know they have a high percent of people that don't pay off every month - especially travel focused cards.

Yeah it is actually pretty insane, the middle class with a barely handle-able debt load are paying for the upper middle/upper class to have free flights, etc...

Even without the cards they are still doing that, hah

Not sure about that. Consider that in Europe, credit cards are not as popular, perhaps in part because there's not much in the way of rewards programs. An oft-suggested reason for that is because card fees are legally capped pretty low in Europe.

You try to explain why you don't necessarily agree and in doing that you confirm everything the parent said. Very confusing.

They probably weren't talking about high interest but vendor fees instead

What's fun, is if you run the math (let's assume $1k card) - the credit card companies make more money if you charge and pay off your $1k each month than if you charge $1k and then pay interest on it.

Let's assume 3% merchant fee, they get 3% of each charge, so $30 a month, for $360 in a year. Most cards max at 30% interest, which would be $300 a year (technically less because you're paying it off each time). Even with the 3% once, that's $330.

The banks aren't dumb. The interest they make is gravy.

Not just cash, also debit cards and credit cards with lower rewards. Basically merchants raise prices to average out these fees, so a person with a cash credit card would pay for someone who uses Amex platinum.

If I pay cash and pay a price that rose because of credit card fees, how does that cash go back to the credit card companies? Wouldn’t it stay with the seller?

If the credit card companies take a dollar from every transaction, then the store raises prices by 80 cents to keep margins the same (because some people pay by cash). Your 80 cents in cash goes to the store, and subsidizes 4 other customers purchases (who would otherwise be paying the full extra dollar).

Note that this complaining over fees is a privileged position, we are trying to slash visas margin, but if it didn't exist we would be BEGGING someone to come and run it this smoothly.

Businesses don't raise prices to "keep margins the same", they raise prices to maximize profit, adding a transaction fee generally has unpredictable effects on price, including possibly lowering your optimum price. I bet this rarely happens in practice, but the theoretical situation is not particularly simple.

> Businesses don't raise prices to "keep margins the same"

It's absolutely common practice. A few luxury businesses can get away with outsized margins, but everyone else in the physical goods business is working at 60-70% gross margins (so MSRP is usually ~3x cost). Grocery stores are outliers with absolutely razor thin margins.

In twenty years in e-commerce, I've never not seen prices updated to keep margins in a narrow band.

The only thing that will happen is if you have multiple competing companies, they affect each other's prices in ways that may make the band wider. You also have the various x.99 prices that companies want to hit (so a grocery store will sell something for $4.99 and not raise the price to $5.17 to keep their margins, but will hold out until they feel they can jump to $5.49 or $5.99 - this right here is the biggest reason for "shrinkflation" - the price wants to move to something that is not a .99 and so they resize it to make it hit one.)

But no company will long run at a loss.

> but if it didn't exist we would be BEGGING someone to come and run it this smoothly

I disagree, if they didn't exist and the need existed it would be fairly easy to get a company going to facilitate payments.

China for one has settled on mobile app payments via QR codes for almost everything these days, credit cards are almost nonexistent.

The US credit card system is build around manually copying down credit information and mailing it in once a month to a processing center.

Other countries have strongly leveraged the ability for instant communication to do many more things.

Money is fungible. Your physical dollar bill can be collected and deposited and make it possible for _another_ dollar to do something else.

if there's no difference in price, I'm paying card, simple as that

yes. i pay all my CC bills on time and don't incur any fees. So it's no-brainer to pay using card as I get cash-back plus perks like dispute/warranty protections etc if something goes wrong.

I bought my last phone with my amex and literally dropped it on a rock no more than 6 hours after taking it out of the box. Completely shattered and bricked the screen.

Amex has accidental damage coverage for 30 days after purchase, and they fully reimbursed me for the $300 repair. Very happy about that.

The dispute protection is no joke. Once 10 years ago, I bought something from Kroger with a debit card. A few hours later, the merchant charged a whole bunch of random amounts to the card until the total climbed above $1000 and I blocked the card. It took the bank quite some time to get the money back. Thankfully I wasn't living on the edge and didn't have rent due around that time period or else that would have been a much more devastating event. Never have to worry about that nonsense with credit cards.

It wasn’t the merchant someone placed a skimmer on that machine. It happened to me, but only for $100…my bank caught it instantly. I used a debit card at Home Depot, and an hour later my bank contacted me knowing that I did not purchase sneakers at a Steve Madden store an hour away (I was actually impressed with whatever fraud-detection software they were using) After that I was very wary about using debit cards, but felt better once most had chips on them.

One of the more helpful-to-consumers uses for cellphone and app location tracking

About 10 years ago I had a similar situation for $500-1500 with my debit card which was pickpocketed in Chicago. I was lucky, Chase put the money back in my account within a couple hours of me calling. Legally I think they could have waited much longer, but they made me whole the same day.

I was a college student, traveling, and generally carried low balances. I was very thankful that Chase handled it the way they did.

They’ve also likely made far more than that in overdraft and monthly fees from my chronically low-balance accounts which often didn't have direct deposit going into them so I’d have monthly fees for the sin of simply “having less than $5,000 and no direct deposits that month”.

They can give legally discounts for other payment methods, but not for specific cards. Credit is credit.

Meaning if you have a card that charges the merchant high fees and gives their customers lots of rewards, the business has to either eat that cost or not take that card. They can't charge you more for AmEx.

>Merchants jack prices up to account for credit card fees.

This is simply wrong. If it was true, then merchants would not care about credit card fees!

Merchants hate jacking up prices unless that jack-up puts money in their pockets. Jacking up prices drives away customers.

Not if everyone has the same credit card fees.

But they don't, large vendors often negotiate their own contracts

They do this to increase their margins because otherwise... they eat the cost of interchange.

Even overall demand can go down if prices rise

It's inconsistent. Some do, some do not. Tipping by card comes straight out of the recipient's hands, regardless.

Not a fan of these credit card fees, especially where certain cards have higher merchant fees, but cash handling has its own fees such as bank per-deposit fees, leakage, and additional labor costs. According to Gemini, accepting credit cards has lower total\hidden fees and other benefits...

>Compared to cash, credit card transactions generally come with lower hidden fees for businesses. Here's a breakdown:

>Credit Card Processing Fees: There are fees associated with credit card transactions, typically a percentage of the sale amount paid by the business to the credit card processor. However, these fees are often lower than the cumulative hidden costs of handling cash.

>Faster Transactions: Credit card transactions are quicker than cash transactions, reducing checkout lines and improving customer experience. This translates to lower labor costs for the business.

>Reduced Risk: The risk of theft and loss is significantly lower with credit cards. Chargebacks (when a customer disputes a credit card transaction) can be an issue, but these are typically manageable compared to stolen cash.

>Improved Sales Tracking: Credit card transactions provide a clear digital record of sales, simplifying bookkeeping and reconciliation for the business.

>Potential for Increased Sales: Offering credit cards allows customers to make larger purchases they might not have enough cash for, potentially increasing sales for the business.

It's fair to say that anyone looking for what an LLM might output on this topic could just ask an LLM, no?

At some point, we’re here for human interaction

Gemini just summarized what I had discovered in the past on this topic, I had read somewhere that cash handling can add up to 17% in total fees but I believe it was an unbiased source.

Of course what is not accounted for is tax avoidance which cash can make easier for a merchant.

> opting for cashback

For cashback it depends where you live.

In the US, cashback will be likely be wholly or significantly funded by the Interchange Fee that the merchant receives.

The Interchange Fee is the fee the card issuing bank "skims off the top" from the fee the merchant is charged for taking your card.

In the US, interchange typically around the 2% mark. In the rest of the world its more like 0.2%, hence you can only really fund your loyalty programme out of interchange in the US.

Other sources of revenue the card provider can use are any annual fees they charge the customer, any penalties they charge the customer, and of course interest fees charged to cardholders who do not pay off their balance.

If your card company also runs a points scheme, then they can get extra revenue by selling points, either to you directly so you can "top-up" your balance, or in bulk to third-party companies who wish to offer points promotions.

> Like, who's paying for the flights? Consumers, merchants, airlines, banks?

If you are asking specifically about points-accrual card loyalty schemes where the cardholder accrues points which they can then use at a later date for flights, then that is all magical smoke and mirrors.

It boils down to the careful stage management of our old friends supply and demand.

Supply:

The card issuer issues your points. This sits on their balance sheet as a liability (the points are assigned a dollar value). i.e. at this stage it costs them nothing in terms of hard-cash, just a small technical accounting reduction in profits

When you "buy" your airline ticket on points, the liability crosses the balance sheet (the company raises an invoice to you which is paid with the points).

Demand:

This is where the other half of the magic happens. The company makes sure to limit the ability for you and everyone else to redeem points.

You will have seen this if you have ever tried to book a flight based on 100% points, you'll find very limited availability.

Of course you will have seen companies offer you to pay "part-cash/part-points", but if you look closely, the "exchange rate" on offer is generally very poor value for money.

Does this mean when I use a "rewards card" outside the US (that has no additional currency fiddling fee) that the bank is eating the 1.8% difference? Or do they get me on the currency exchange rate?

I suspect I know the answer, even thought their rate is almost always the best available to me.

I used to think it was the consumer/cash buyer but it's pretty clear now that the merchants do not have the pricing power to pass these costs on. It's why they get upset and try to lower fees. It's why Costco stopped taking Amex. If they could simply pass it on they'd be indifferent.

There are various studies online confirming this.

I don't know what happens in the US, but in Australia we have credit card and debit cards. Credit Cards typically charge a 1%..2% fee, Debit Cards have a 0% fee. Both are issued by Visa or Mastercard. 0% is much closer to what is costs for a computer to record the transaction that 1%..2%.

That's 1%..2% of a huge chunk of consumer expenditure for something that evidently costs close to nothing to run (going by the Debit Card fees). If you earn $100,000 a year, spend 1/2 of it using credit cards, then at 1% that's $500 a year.

How much are you earning in rewards?

Previous discussion, linking to a study on this

https://news.ycombinator.com/item?id=34492502

Surely your purchasing data gets sold off, if nothing else?

Here's a popular analysis from r/Churning exploring who pays for cc rewards. TL;DR: cash customers. https://old.reddit.com/r/churning/comments/5oucdq/the_econom...

> who's paying for the flights?

It’s appealing to blame everyone but the consumer.

You, the person wielding the credit card, are paying for the flight.

You swipe your card, and when you paid money for something, seemingly, you also get a little bit of a flight with it.

This is kind of like going to a restaurant and swiping your card and enjoying the ketchup. You paid for the ketchup. In few restaurants can you go and eat the ketchup without buying something else. But they still sold you the ketchup.

Why does this have to be a big conspiracy?

It is definitely interesting that it’s this or that merchant bank swipe fee airline spin around turnaround thing. On the other hand who cares.

It is all obscuring the fact that you are buying the flights.

If the flights didn’t exist, 3% merchant fees would still be atrocious!

It doesn’t fucking matter to me if people spend money to buy flights, whether by buying them directly through airlines or via some brain dead savings scheme. You and I will never benefit from high swipe fees. You and I will never be billionaires. Absolutely nothing in the world would be lost or become less meaningful if CC providers charged less for swiping in the US, like they do in the rest of the world.

Consumers pay. One way or another. Sooner or later. And upstream costs flow down hill to the consumer.

As for cash v rewards, the best way I've seen it said is: Rewards don't earn interest. So in general - due to inflation - the longer they sit, the less they're worth.

To your point, cash back gives you the opportunity to invest / earn interest.

> Like, who's paying for the flights?

Mostly all the poor people in credit card debt pay for the flights of the rich.

Interest income is the largest of their revenue sources, and interest + cash advance + penalty adds up to well more than half.

https://www.fool.com/the-ascent/research/credit-card-company...

This exactly.

If you always pay down your credit card debt every billing period, you're considered a "deadbeat" because you're using the benefits of the credit card's payment processing but not paying in interest.

The best customers of financial institutions aren't those whom are financially responsible or flush with cash, but those regularly incurring 14+% interest on every purchase and paying overdraft fees.

For airlines in particular, the deals they allow through credit cards are more like loss leaders. They need to fill up seats because that's the nature of their business model. If you don't fill up enough seats to make up for the operating cost, the plane doesn't fly, and if the plane doesn't fly then that's one fewer route you'll have paying customers for. Airlines need to keep routes going, so they create incentives to keep people flying, which hopefully gets them into the habit of flying again even when they've used up all their rewards points.

These claims are often made, but they are false.

Banks do not treat credit card customers as one uniform group, using the poor to subsidize the rich. They are multiple segments, with different business models in each segment.

High spend full pay customers provide revenue through interchange fees, marketing deals, and other sources other than interest. They are the most valuable customers, And the most obvious customer facing evidence of this is that they get the largest sign on bonuses.

>the deals they allow through credit cards are more like loss leaders

Au contraire, it's more and more common for airlines' sales of milage/point blocks to CC-issuing banks to be the most important bottom-line contributor, with the value for milage program deals exceeding the rest of the airline's operations and assets altogether: [1] https://www.theatlantic.com/ideas/archive/2023/09/airlines-b... [2]https://airlinegeeks.com/2021/12/17/here-s-why-airline-loyal... [3]https://www.bloomberg.com/news/articles/2017-03-31/airlines-...

Airlines generate so much revenue from credit cards that it's said that airlines companies are credit card companies with an airline attached.

This 100%:

As a proud "deadbeat" in this category, the rebates are great, but I know it comes at the expense of broader society. Effectively, if you're wealthy enough (like many on HN are) you can use cash back rewards to get more money out of the system than you put in via fees, meaning at years end you will net back money over and above pricing to compensate for the transaction fees (IE, the prices of goods tend to be marked up at least 2% more to account for transaction fees). This is why 5% cashback rewards are a huge draw, even though you often have to manage categories, you can seriously come out ahead if you plan your spending accordingly.

This is why the wealthiest consumers - I'd argue to credit card companies they're the most important consumers - actually defend higher fees. Credit card companies know full well there is a subset of folks who will never pay interest, but they are also some of their strongest public defenders for the status quo.

According to the OP's link, the credit card companies made $51 billion in interchange fees in 2020. That's mostly from what you call "deadbeats". That's a lot of money. Deadbeats are super-profitable.

Those paying interest & late fees are even more profitable than deadbeats. But make no mistake, the credit card companies love deadbeats too.

The biggest lie the banks get people to believe is that they're somehow "scamming" the credit card companies by paying off everything in full each month.

No! You're a highly profitable customer! You're the customer they offer $400 to to sign up!

> ”you're considered a "deadbeat" because you're … not paying in interest.”

Not at all. Credit cards also earn the card issuer significant revenue via interchange fees: up to 3.5% of every purchase you make on the card.

With credit card transactions of ~$5T annually in the U.S., those fees are huge.

(In Europe, interchange fees are regulated and capped. But there are no such caps in the US, hence this lawsuit…)

> If you always pay down your credit card debt every billing period, you're considered a "deadbeat" because you're using the benefits of the credit card's payment processing but not paying in interest.

So why do they keep offering me incentives to use their product? Is it the hope that one day, after 20 years, I'll finally overspend and they'll get to collect some interest from me?

Credit cards enable you to buy more products and services earlier, which is good for financial institutions that have investments in the businesses that provide you those products and services. Money that just sits there does nothing for anyone, but money does good things when it keeps moving. Even if they don't make anything off you, you're moving money around so the businesses they have partial ownership of can be seen as valuable and have reason to grow. They can't just give money to these businesses instead of you because then there'd be little guarantee that they'd provide enough value to be worthwhile. By giving you a credit card, you're telling the financial institution behind the credit card what businesses are valuable to you and what they should be invested in.

This isn't to say that they don't still consider you a low value user, since you're not providing them with much in terms of direct revenue. Yes, finance companies love it when you hand money directly to them and won't mind if you forget to make a payment after 20 years and and up paying interest.

My guess is they probably have mountains of data that they use to optimize the probability of overspending across a population.

You may be unlikely to overspend after 20 years because you are financially literate, but if you're paying off your credit card every month, you and I are very much outliers on the bell curve of net worth in the US. If you have an engineer job you almost certainly are an outlier. We aren't the target audience of these ads. There are a lot of people in the middle of the curve who mostly pay off their credit card every month but might slip once or twice, and they want to optimize that probability of slipping.

Because they collect their 3% or whatever, and even after giving you your "cut" for strongarming the merchant for them, they still get 1% or whatever it is.

You've paid off every month on time for 20 years, and they get 1% of that. For basically running some servers and balancing payments.

That's big money - debit cards do the same thing for what, 25 cents a payment? So once the credit card hits about $9 it's all gravy.

They steer their investment decisions based on stalking your spending habits, and sell that information to others who do the same.

incurring 14+% interest on every purchase and paying overdraft fees

Your point is well taken, but even with a high credit score Apple Card is still at 16% (for us). And after a surprisingly/not surprisingly difficult time finding that interest rate, Bank of America is charging us friggin' 20%. We pay both cards off each month, so it doesn't matter to us. But it probably does matter to the less-well-off person paying probably 22-25% on credit card debt that they don't zero at the end of the month.

(EDIT: I see @denimnerd42 ninja'ed me on this point.) Though Goldman-Sachs was losing money on the Apple Card, apparently. How does that happen? From what I've read, Apple wanted a high approval rate, so folks that would be paying those interest rates each month were getting approved but the rate of default was high. Again, so I've read. But it makes me wonder if it isn't more desirable to have customers that pay it off each month, but put everything on the credit card and thus generate the 2% (or whatever) merchant fee on, say, the $8K they spend each month. It might be smaller revenue, but far more reliable with less risk of default.

That merchant fee gets split between the network (e.g. Visa) and the bank, so they net much less than you may think off that. They make far more on interest charged.

That's why some high end cards charge a yearly fee. Its to recoup some of the rewards & perks costs in aggregate.

> Apple Card is still at 16% (for us).

Yep, seems that 16.24% must be the lowest APR. My credit score is perfect, and that's the best Apple Card will do for me. All of my money (everything, groceries to utility payments, all of it) flows through the card and paid off every month. But that APR is a little nuts, so I keep an old credit union Visa around that has an 8% APR grandfathered in from 15 or 20 years ago. If for some reason I found myself needing to run a balance, even for a short time, that's the card I'd use.

Just have to remind myself to use it occasionally so they don't kill it for inactivity.

Shell MasterCard Rewards upped their APR to 34%, (,it doesn't matter because I too pay in full), but yikes!!

Man, I thought that would fall under usury laws or summat.

But I do seem to have some vague recollection that some state like South Dakota knows not of this "usury" you speak of, and therefore the credit card company has a business address there.

Yeah, when I saw that letter, I was like man, did I miss a payment and its a penalty apr?

not really. goldman sachs found out those customers cost them a lot of money with the apple card. the best customers are the wealthy who have $100k+ in their checking/savings accounts and million+ in their brokerage accounts and clear 10k+ monthly on their credit cards.

That could well be (especially if you look at banks who don't offer competitive interest rates on cash).

That said, Goldman Sachs is sort of infamously bad at consumer banking, so I'd take their words there with a grain of salt. They lose a lot of money on most of their consumer banking endeavors: they lose like a billion per year on Marcus, they're actively trying to drop the Apple credit card, etc.

So at some level, of course GS is gonna say their best customers are the wealthy ones, because they largely haven't figured out how to make a decent business for anyone except the ultra wealthy.

That's just GS overpaying in a business segment they don't have experience in. Companies that know how to run a credit card make a boatload off of high-spending users who pay off the full balance every month.

Insurers (and Robbers, Safe Companies, Employees graft, Banks)

If you had as much cash in the till as required to do business in the 90s; or took checks; or had employees that had to do regular bank runs; to insure against the loss via employees, robbers, etc it would cost a significant amount of each transaction to insure that, especially the liabilities of it.

It's also a tax on the people that pay cash (assuming the store charges the same rate for cash or card).

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