I don't really buy this. Why not just not have the fees and let prices be lower so that consumers have more cash? Cash is always better.
I assume most people never take advantage of most of their points, essentially sacrificing that 1-2% to the credit card processor. The processor knows this, which is why they do it.
For the same reasons that coupons are immensely popular. You can target consumers who have the greatest price elasticity, and take advantage of those with the lowest.
As an example: Mastercard (let's say) offers American Airlines cobranding, marketing (in the form of newsletters and emails pushing me to use miles whenever i pay my bill) and service perks (read: lower transaction processing fees) in exchange for frequent flyer points (note - not even dollars, a point is some fraction of a dollar in terms of flight purchasing power) for tickets on flights that would otherwise probably have a seat empty. Nice seats on full flights cost more points, of course. I get these points if I use my card often enough.
I'm fine with this arrangement - both parties are gaining here, and maybe I as a customer get a nice perk occasionally when I finally have enough incidental points saved up to go on a flight - but none of us is under the impression that there's some one to one relationship between fees charged and amount of money paid for redeemable rewards, and I expect that in volume both parties are actually making money off of this arrangement, not sacrificing revenues.
There's also a feedback loop at work here - Mastercard pushes points for American Airlines, more people use American Airlines, more of them end up using the same airline regardless of points due to familiarity and customer stickiness, so Mastercard gets more AA transactions and more fees overall - even though they've dropped the per-transaction fee rate, the increased volume makes up for it...
the interchange fees for Visa and Mastercard have a surcharge for rewards cards.
It is definitely not the case that the rewards for your card are free (to the merchant/consumer).
Me:
> And the rewards aren't paid for with the fees charged to the customer;
I don't see a conflict with these statements, do you?
So what we have here is most consumers only see themselves getting rewards, nothing on about themselves wanting the best rewards card being the root cause of higher prices.
scenarios:
consumer: sees total price -> easy to calculate 1-2% rewards merchant: sees increase in transaction fees -> increases price
problems for:
credit card companies: getting rid of higher percentage rewards program might cause customers to use competitors cards instead.
merchant: accepting cash/debit only would mean losing sales for those that don't have those mediums available.
consumer: looking for the best deal. I'm the problem, I have about 5 cards, each optimized for a type of spending (restaurants, groceries, gas, foriegn transactions, etc).
Read about rewards causing the increase in transaction fees about 2 years ago, something I never thought about. The problem with increased rewards card is fairly invisible to most. Consumers love better rewards, merchants only sees increasing rates (but I think we're pretty jaded and just accept it or start using things like Square, Level Up, etc. Not thinking about root causes.), credit card companies recoupe losses through higher transaction rates.
Chicken-or-the-egg problem. It won't even theoretically lower prices unless everyone switched over and credit cards are dead, but few will adopt it if it means missing out on cashback and other benefits they currently enjoy. (And yes, plenty enjoy them especially savvier, wealthier consumers.)
And here's the crazy thing: it doesn't even lower prices in practice. Even where fees have been regulated down, the savings did not get passed on to consumers in the form of lower prices (this happened in Australia). Merchants kept that margin. It just didn't move the needle enough to overcome price stickiness and make an impact at the individual purchase level.. whereas annually 1-2% cashback or other rewards can feel more meaningful.
Exactly what they did in Australia. Except guess what? Didn't result in lower prices. Merchants kept that margin for themselves.
Ahh, macroeconomics.