Chapter 10: Payment Cards (Section 10.3)

Question 1

Which four parties participate in a payment‐card transaction?

Answer 1

The cardholder, the merchant, the issuing bank (which serves the cardholder), and the acquiring bank (which serves the merchant).

Question 2

What are the three main fees in the Rochet–Tirole card‐use model?

Answer 2

Cardholder fee 𝑓, paid by the consumer to the issuer per transaction.

Interchange fee 𝑎, paid by the acquirer to the issuer on each transaction.

Merchant fee 𝑚, paid by the merchant to the acquirer per transaction.

Question 3

How is the equilibrium interchange fee 𝑎∗ determined?

Answer 3

It equates the average consumer benefit 𝑏 from using the card to the net cost incurred by merchants (𝑚−𝑎∗). At 𝑎=𝑎∗, both consumers and merchants participate.

Question 4

What condition ensures merchant acceptance of cards?

Answer 4

Merchants will accept cards if and only if the interchange fee satisfies 𝑎≤𝑎∗, so that their net cost (𝑚−𝑎) does not exceed the benefit they receive from card‐paying customers.

Question 5

Under what circumstance will card adoption collapse?

Answer 5

If the interchange fee 𝑎 rises above 𝑎∗, merchants exit the network (they refuse cards), and consequently consumers stop using them.

Question 6

How can regulators improve social welfare in the payment‐card market?

Answer 6

By capping or setting 𝑎 to balance consumer benefits and merchant costs, maximizing total surplus and preventing inefficient under‐ or over‐adoption of cards.