Credit Card Loyalty Programs
In an earlier post, I talked about retailer loyalty programs, and showed how for most retailer loyalty programs, the motivation is to encourage customers to identify themselves to the retailer on each transaction, so the retailer can better understand their customers.
But the most commonly encountered loyalty programs these days seem to be those run by credit card issuers. Alittle thinking on the matter will show there's some major differences between these programs and the retailer loyalty programs I looked at before. The first one being, when you participate in a CC loyalty program, there's no additional plastic card that you need to produce on each transaction - the CC issuer already knows how much you spend on your card, and at what retailer.
Also, unlike in retailer loyalty programs, the rewards you earn are not things that can be written off as marketing expenses by the program owners. Say you sign up for the Dymocks Booklover program, and spend $100 on books. You'll then get $5 to spend the next time you come in to the store. So the net result is that Dymocks have given you a 5% discount in exchange for you first telling them what they need to know in order to more efficiently market to you, and then you coming back to the store and spending more money. This is a win-win.
But When you cash in your ANZ Rewards Visa points for a $100 Harvey World Travel gift card, then ANZ are handing over real money to HWT to pay for that gift card. Probably ANZ will have negotiated a discount from HWT, so they will pay a bit less then the face value of the gift card, but they are still paying out real cash to a 3rd party, which has to be raised from somewhere.
Let's just re-iterate this. Loyalty programs offer credit card issuers no additional information about their customers, and the rewards that they offer cost the issuers real money to provide.
Which begs the question: why on earth would any credit card issuer run such a program? The answer to that comes in two parts. First, every issuer runs these programs because every other issuer does as well, so customers expect to be able to earn rewards. A credit card issuer without a loyalty program would be like a peacock without a brightly coloured tail.
The second part to the answer is, issuers can afford to run these programs because they are able to push the cost of the rewards on to the merchants where you use your credit card. When a credit card is used to pay for goods, the merchant who has accepted the card ends up paying their acquiring bank a fee called a Merchant Service Fee, that will usually be between 1% and 5% of the total payment. The acquiring bank then splits this fee with the issuing bank. In other words, whenever you pay for something on a credit card, up to 5% of what is charged to your card ends up going to the banks processing the transactions, not to the retailer who provided the goods or services. If you paid by debit card (i.e. chose 'cheque' or 'savings' on the EFTPOS terminal) then there would still be a fee charged to the merchant and split between the acquirer and issuer, but the fee would be a flat fee (somewhere between 20c and $1.00). So when you pop out to your local hardware and spend $400 on a new lawn mower, whether you press press 'savings' and 'credit' on the EFTPOS terminal can mean either and extra $20 margin going to the hardware store or else, $10 each in fees to the acquiring and issuing banks. Assuming you have the money in your savings account, and you're going to pay your credit card off in full at the end of the month anyway, why would you press 'credit' (and give that $20 to the banks) instead of 'savings' (and let the hardware store keep it)? Well one thing that might sway your mind is the fact that choosing 'credit' will earn you some rewards points, whereas choosing 'savings' won't.
In other words, loyalty programs are a way of encouraging people to favour one payment method (credit cards) over another (debit cards) that are transacted and settled in exactly the same way but have very different fee structures. The credit card issuers can 'bribe' people to pay by credit cards, and fund that through the merchant services fees they charge (Since both the value of rewards you earn, and the fees you earn for the bank that issued your credit card are directly proportionate to the value of goods and services you pay for using your credit card.)
So the merchants in turn know that a reasonable percentage of their customers will pay by credit cards, and so when they are working out what price to charge, they will factor in the merchant service fees.
So the net result is, everyone ends up paying (slightly) higher prices to cover the cost of credit card loyalty programs. This is something the RBA has noticed, and is working to address.