The Fightback Begins – Kroger Tests Not Accepting Visa

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Visa, the cards company, is hugely profitable and near everywhere. The two are linked, it’s a company using network effects in a double sided market. That also means that, in one sense at least, it’s fragile. It’s a little early to say that this is going to reveal that market fragility but when it does happen it will be this way. Kroger is going to test not allowing people to use Visa in its shops.

Grocery chain Kroger is reportedly considering banning all Visa card transactions at its locations throughout the United States due to a dispute on swipe fees, Bloomberg reported.

Kroger is reportedly taking the first step toward stopping Visa transactions. At its Foods Co. Supermarkets, which are located in California, the chain will stop accepting Visa transactions next month, Bloomberg reported.

This might not be as damaging to Kroger as we might at first think. Near all Americans who have a card at all have more than one. And those more than one won’t all be Visa. So, when confronted with not being able to use Visa at the checkout this might well not be a generalised problem. So Kroger might not be losing much by doing this.

The grocery store chain announced the policy change on Monday, saying it was due to Visa’s interchange rates, which merchants pay to banks whenever a customer uses a corresponding card at the store.

“Visa’s rates and fees are among the highest of any credit card brand,” Foods Co. said in a statement.

You might think that the card company can charge anything they damn like. After all, the retailer just has to accept the choice of the customer, right? But it doesn’t work that way, not at all. There’s this combination of network effects and a double sided market:

Kroger Co. is considering expanding a ban on Visa Inc. credit cards imposed by one of its subsidiaries, in the latest signal that retailers are preparing a fresh battle over the $90 billion they pay in swipe fees every year.

Shares of payment companies including Visa, American Express Co. and Mastercard Inc. dropped on Monday. Merchants have long looked for ways to cut such charges, including by lobbying lawmakers for lower rates and through technology upgrades that avoid traditional card payments entirely.

This really is the possible start of the fightback.

The credit card companies make their money out of the fees charged to the retailer. That interest payment on your outstanding balance goes to the bank that lent the money to you, not to Visa. So, obviously, the card networks want to have the highest charge they can. But then come our two economic effects. Firstly, this is a double sided market. There is selling something – ability to pay, the ability to borrow perhaps – to the consumer. There is also that sale to the retailer, that they will make marginal sales by accepting the card.

Do note that it’s marginal sales. No one at all thinks that Kroger is going to lose all of the sales it used to have on Visa if they don’t accept Visa. Some to near all consumers will just pay with another card or possibly even cash. Some won’t – and it’s that marginal number, the some, which matters. Net margins on groceries are pretty tight. A few percent after all costs is about right. Those last few marginal sales have higher. But the gain to Kroger is not paying Visa on all of the former Visa transactions. The loss is those marginal sales. When transaction fees are 2% in a low margin business, well, that loss of sales would have to be pretty high for it to be loss making to Kroger.

There’s a real limitation on what the retailers are willing to pay that is.

Then we can add in the network effects. One of the basic selling points of a Visa (or Mastercard and to see how much compare that to Amex which is accepted in many fewer places) card is that it is taken near anywhere. It’s as good as cash pretty much. And now if some segment of the economy stops accepting it that network effect begins to unravel. More people will be happy enough to forgo the marginal sales from accepting Visa as more people will be used to not being able to use it and organise other methods. That can snowball, as indeed it did as they were building out the payment network.

Being in a double sided market Visa must keep both sets of customers happy, the consumers and the retailers. And failure either side leads to those network effects beginning to unravel the network from both sides. There’s a lot more at stake in this negotiation fight than just the fees Visa charges to the retailers. For aficionados of this sort of economics (say, followers of Jean Tirole) it might be time to get the popcorn in.