Economic Conundrums
Keeping the use of payment cards simply for consumers and merchants has necessitated a great deal of complexity for suppliers, and the problems that have arisen have been largely unique to the industry - as a result, there have been a number of complex problems that have required innovative solutions.
Product Differentiation
Payment cards are regarded as a commodity, and "brand" has little value, so car issuers have struggled to differentiate themselves and their products to gain competitive advantage. From a practical perspective, two factors are considered by most consumers:
- The percentage rate on balances
- The annual fee charged by the issuer
Low is generally good, but customers will accept a compromise based on their behavior: a "transactor" that pays his bill in full each month would benefit from a low annual fee, whereas the "revolver" who keeps a balance on the card at all times would benefit from a low interest rate. Ironicalyl, the features that benefit the customer most (lowering their cost) benefit the service the least (decreasing their revenue).
At the time the book was written, the terms of cards varied widely among providers. In the present day, card offers are largely homogeneous: most cards have no annual fee, and the rate of interest is generally the same from one provider to the next (based on the consumer's credit rating).
There is also some differentiation in calculation: some issuers waive interest charges if the bill is paid in full, others charge interest based on average daily balance, others use a "two-cycle average daily balance," etc. the author spends a great deal of time on this, but my sense is that the difference is largely negligible for consumers, and only the mathematically-inclined are going to attempt to sort this out when choosing a card.
Some customers will also consider the amount of the credit line extended to the consumer. The author asserts that customers "prefer" higher limits, but my sense is the limit is moot so long at it is sufficient - though I suspect that there is some prestige value in tendering a card that is branded to imply status (gold and platinum cards).
Card issuers may also impose service fees on their cardholders: late fees, over-limit fees, cash advance fees, etc. The author implies that customers consider these things when a customer chooses a card, but my sense is that it's more likely customers choose to leave a card (rather than choose it) when they run afoul of excessive fees.
Some issuers have attempted to create product differentiation by offering special features: cash-back, rewards points, airline miles, etc. and in some cases, customers are willing to accept higher cost to obtain these special "perks." The author asserts that airline miles have been popular (the AMEX/Delta card issued 2.8 million cards in its first year).
Card issuers are also entering into affinity deals with various organizations, including sports teams and charities, in which the affinity partner gets a slice of the pie in exchange for marketing the card, and the consumer is motivated by their desire to benefit the organization or to carry a distinctive card.
Speaking of distinction, card design is another avenue issuers have explored to gain consumer preference. The author provides one example (Star Trek themed cards), but not any statistics to indicate its popularity - however, in the present day, features such as photo cards and even a "design your own card" program suggest that design is still seen (by issuers at least) as a distinguishing feature.
EN: This information is largely dated. The author asserts that "it is difficult for customer to learn about and compare alternative card products" - which is less true today than before, as there are numerous Web sites that provide side-by-side comparisons. He also asserts that the products are not "perfect substitutes" to consumers, but does not provide any facts to support that statement. However, it remains true that card issuers spend a great deal of cash on marketing and advertising to promote their cards, and have even turned away from marketing the benefits of a specific card and gone for more emotional and psychological appeals (tactics that are a characteristic of a saturated commodity market)
Economics of Network Industries
Credit cards are a network industry: each point-of-sale is a node within a merchant's payment systems. Each merchant is a node on a larger network between themselves, card issuers, card processors, and card services.
The primary note is that a network increases in value as it increases in use: merchants are attracted by a mass of card-using consumers, consumers are attracted by a mass of card-accepting merchants. As more nodes join the network, its power (and attraction) increases.
There are interdependencies among most products. One example is a soft drink: as more people who consume it, more retailers will stock it, making it available to more people to obtain (and easier for existing consumers to obtain more often).
This results in a snowballing effect - hence it was very difficult for credit cards to catch on, but they eventually gained critical mass and use has increased exponentially, to the point of market saturation.
From a political perspective, rapid growth results in a great deal of panic, and panic results in legislation. Policymakers have been on guard against antitrust issues, consumer protection, the economic impact, and various other side effects of the rapid growth and acceptance of credit cards. What's more, laws made by people in panic tend not to always be very good laws, though the author does not point to any specific "problem" legislation.
Some Economics of Joint Ventures
It is also worth noting that payment cards originated as a joint venture between independent banks. Even now that the cards themselves are corporate entities, the daily business of credit cards involves the participation and ongoing cooperation of a plethora of independent firms.
The author goes into painstaking details about the flow of transactions, dividing some credit cards (AMEX, Discover, and Diners Club) into closed-loop systems, and others (Visa and MasterCard) into open-loop systems.
The fundamental difference is that a closed-loop system has fewer intermediaries: a merchant authorizes and receives payment from the card service directly, and the customer pays the service directly. In an open loop system, there are "acquirers" between the merchant and the service and issuers between the customer and the card service, which creates more complexity and variance.