Debit Fee Caps Could Kill Exempted Banks, Bernanke Says; More Groups Seek Fed Delay

The Federal Reserve is “still not sure” whether the exemption for banks under $10 billion to new debit interchange fee caps will work, but there is good reason to be concerned that it will not, and the result could be bank failures, Fed Chairman Ben Bernanke told a May 12 Senate Banking Committee hearing on implementation of the Dodd-Frank Wall Street Reform and Consumer Protection Act.

Bernanke's comments came in response to a series of questions from Sen. Jon Tester (D-Mont.), who has introduced legislation to delay by two years the rules unveiled by the Fed last December in order to allow more study of possible impacts and unintended consequences. The Fed rules were mandated by the Dodd-Frank Act under an 11th hour amendment introduced last July by Senate Majority Whip Richard Durbin (D-Ill.) (73 DER EE-12, 4/15/11). A spokeswoman for Tester after the hearing said that Tester was still gathering support for his legislation and “looking for a time” to have a vote on it.

Also on May 12, state bank and credit union regulators sent a letter to Congress requesting support for Tester's bill, and for a similar bill introduced in the House.

Bernanke told the Senate committee that several debit networks have expressed interest or willingness to maintain a tiered interchange fee system that would implement more protectively the smaller bank exemption to the fee caps. “But of course that is not required,” he said and added that “there is no law that says they have to do that.”

It has been suggested to the Fed that the agency should ask, or even require, the networks to make public what interchange fees that they charge, Bernanke said, and added that while this would be of some value in terms of transparency, there also are market forces that would work against the exemption.

‘If Exemption Does Not Work, Small Banks Will Suffer.'

Bernanke said that if the exemption does not work, it would affect the revenue of small issuers, “and it could result in some smaller banks being less profitable or even failing.”

When Tester pressed Bernanke about whether this possibility does not make it prudent to “step back and get more information,” the Fed chairman put the ball back in the lawmakers' court by saying he would have to defer to Congress on “what kind of information you want to get.” The Fed already has done one review, and received more than 11,000 comments on its December proposed rule, he said.

When Tester asked him if the Fed had been able to “wade” through those 11,000 comments, Bernanke said that was why his agency wrote to Congress to say that the final rule would be delayed (61 DER EE-15, 3/30/11).

Tester also questioned Federal Deposit Insurance Corporation Chairman Sheila Bair about whether it would be possible to exempt community banks from the debit fee cap. Bair's response was similar to Bernanke's. She said that it was “questionable.”

Bair said that the FDIC had suggested that the Fed could try to use its authority under Reg E to require that the networks accept two-tier pricing, but “our lawyers probably have different perspectives on that.” She added that it would be the Fed's call since debit interchange is the Fed's rule. “So, if their view is that there's no legal authority to require that, it does become even more problematic,” she said.

‘Banks Stressed; Consumers Face Higher Fees.'

Bair said she did think that the interchange rule would reduce revenues at a number of smaller banks and that they would have to pass it on to customers in terms of higher fees, primarily for transaction accounts. Bair asked: Is that the right result? Is that the result Congress wanted? “You need to determine that, but I think that is what will happen,” she told the Senate committee.

When Tester asked her about the rule's impacts on the safety and soundness of community banks, Bair said the rule would clearly stress some institutions, but did not think it would stress them to the point of failure. She added that, with other challenges confronting the banking sector, “it's probably something they don't need to be dealing with now.”

Tester also questioned Bair about whether the rule would mean higher fees in other areas for consumers, and Bair responded, “Yes, this fee income would have to be passed along in other fees.”

Acting Comptroller of the Currency John Walsh also said that the proposed interchange rule was a “key concern” identified in the OCC's outreach to community banks. To the extent that it works out as has been suggested “where it cuts into revenue for community banks, it is one more stress on them,” Walsh said. However, Walsh said he deferred to the Fed on whether the exemption could be implemented, adding that he had not really studied the issues.

State Regulators Call for Delay.

Also on May 12, state bank and credit union regulators joined together to ask Congress to pass legislation to delay implementation of the debit interchange rules to allow for additional study.

The Conference of State Bank Supervisors and the National Association of State Credit Union Supervisors sent a joint letter to Senate Banking Committee Chairman Tim Johnson (D-S.D.) and Ranking Member Richard Shelby (R-Ala.), and House Financial Services Committee Chairman Spencer Bachus (R-Ala.) and Ranking Member Barney Frank (D-Mass.), encouraging support for Tester's bill, S. 575, and a similar bill in the House, H. 1081.

The letter said that state bank and credit union regulators were concerned about potential safety and soundness implications as well as the economic impact of the Fed rule. In particular, the letter said that, because a majority of community banks and state-chartered credit unions have less than $10 billion in assets, “state regulators support delaying implementation of any regulations to provide for additional time to study the exemption for issuers under $10 billion in assets.”

The letter also said that Congress's inclusion of the exemption “recognized a need to protect smaller institutions from potential economic impact”; however, the state regulators said they had concerns that the regulations promulgated would have unintended consequences and would, in fact, not be able to protect these smaller institutions “as Congress intended.”

In particular, the regulators said that the exemption could become unavailable in practice because of market forces not addressed by the Fed rule. First, they said, card networks could simply opt not to implement a two-tiered fee schedule.

Second, if economic pressures do force the smaller issuers to operate under the 12 cents per transaction proposed cap on debit interchange fees, these fees would not be “reasonable and proportional” to actual debit card program costs to smaller institutions, which do not have access to the economies of scale available to larger institutions.

The regulators said that it was possible that many smaller institutions would stop issuing debit cards. “This scenario raises safety and soundness concerns as a large revenue stream will be ceased, and will also incentivize further consolidation among debit card issuers and potentially drive bank customers and credit union members to alternative products outside of the banking system,” the letter said.

Finally, the regulators said it was unclear whether the intended benefits to consumers would be realized under the statutory mandate. While merchants would benefit from lower interchange fees, “there is no means of ensuring or documenting whether these savings will be passed on to consumers,” the letter said.

Due to these uncertainties, the letter said that CSBS and NASCUS believed it would be prudent to take the necessary time to understand fully the economic consequences across the dual banking and credit union systems, “and determine the benefit, if any, to the consumer.”