The Fed’s final rule implementing the Durbin Amendment (Regulation II) went into effect in October 2011. Nearly ten years later, the final rule is still provoking controversy in the form of a new lawsuit and proposed amendments to the rule and its official commentary.
The Durbin Amendment (Section 1075 of Dodd-Frank) authorized the Fed to issue regulations to ensure that the amount of any interchange fee received by a large debit card issuer (one with at least $10 billion of assets, together with its affiliates) is reasonable and proportional to the cost incurred by the issuer. It also limited the restrictions that issuers and payment card networks can place on the processing of an electronic debit card transaction.
New Lawsuit. The North Dakota Retail Association and North Dakota Petroleum Marketers Association filed a lawsuit on April 29, 2021 against the Federal Reserve Board in a North Dakota federal district court seeking to invalidate Regulation II’s standard for reasonable and proportional interchange fees. Regulation II capped the interchange fee received by large issuers (with $10 billion or more in assets) to 21 cents plus 0.05% of the transaction. It also allowed a 1 cent adjustment if the issuer implements fraud-prevention standards.
In 2014, in NACS v. Board of Governors of the Federal Reserve System, the D.C. Circuit reversed a lower court decision concluding that Regulation II violated the Administrative Procedure Act (APA). It upheld Regulation II as a reasonable construction of the Durbin Amendment’s limits on debit card interchange fees and network exclusivity.
In their recently-filed complaint, the trade associations allege that Regulation II violates the APA because it is contrary to law and represents arbitrary and capricious agency action. Among other things, the associations claim that the Durbin Amendment only allows the Fed to consider the incremental costs of authorizing, clearing, and settling a particular debit transaction (ACS costs). They claim, alternatively, that even if the Durbin Amendment allowed consideration of more than incremental ACS costs, “it prohibits the Board from considering the specific additional costs it invoked to support the rule: (1) fixed ACS costs, (2) fraud losses, (3) transaction monitoring costs, and (4) networking processing fees.” They also claim that even if the Durbin Amendment allows the Fed to consider more than incremental ACS costs and such four costs are permissible other costs, the Fed did not have authority to set a one-size-fits-all cap.
Proposed Amendment to Regulation II. The Fed has proposed changes to Regulation II and its official commentary to clarify that debit card issuers should enable, and allow merchants to choose from, at least two unaffiliated networks for card-not-present debit card transactions, such as online purchases. Comments on the proposal are due 60 days after the date it is published in the Federal Register.
Regulation II requires that at least two unaffiliated payment card networks be enabled on a debit card to process debit card transactions. In its background discussion of the proposal, the Fed states that at the time it promulgated Regulation II, the market had not developed solutions to broadly support multiple networks over which merchants could choose to route card-not-present transactions. It observes that although technology has subsequently evolved to enable multiple networks for these transactions, data collected by the Board and information from industry participants indicate that two unaffiliated networks are often not available to process card-not-present debit card transactions because some issuers do not enable two networks for those transactions. According to the Fed, in the absence of at least two unaffiliated networks for card-not-present transactions, merchants are unable to choose between competing networks when routing such transactions. It comments that the continued growth in online transactions, particularly due to the pandemic, has put a spotlight on this issue.
The proposed revisions would (1) clarify that the regulation’s requirement that each debit card transaction must be able to be processed on at least two unaffiliated payment card networks applies to card-not-present transactions, (ii) clarify the requirements that the regulation imposes on debit card issuers to ensure that at least two unaffiliated payment card networks have been enabled for debit card transactions, and (iii) standardize and clarify the use of certain terminology. Notably, the Fed characterized its changes as clarifications rather than changes to existing law.
The proposal quickly met with criticism from leading banking trade groups, including the American Bankers Association, Consumer Bankers Association, and Bank Policy Institute. In a joint statement, the groups called the Durbin Amendment “flawed from the beginning, making it harder for banks and credit unions to serve consumers, causing unintended consequences for financial institutions and failing to deliver on its promise to lower retail prices.” They asserted:
The Fed’s decision to revisit Reg II risks causing even further consumer harm. The Fed’s own study of debit card transactions, both in person and online, shows that merchants and consumers are increasingly benefitting from significant investments in innovation and fraud detection embedded in the nation’s payment rails today. By reopening the rules surrounding debit card transactions, the Fed could put the convenience, safety, and security that Americans have come to expect when they use their debit card at risk. We will vigorously oppose any attempt to undermine the payments system at the expense of consumers.