Competition analysis

In general terms, retail payment markets should achieve an adequate balance between competition and cooperation to benefit market users; transparent market should promote competition and contestability; and the pricing structure should encourage an efficient allocation of resources and payment risks.241_{If markets are insufficiently competitive or} contestable, efficiency benefits from innovation, consolidation, exploitation of economies of scope and scale may fail to be realized or to be passed on to consumers. In particular, established networks are potentially in a position to create entry barriers that impede competition and innovation. Entry barriers can be created either directly by imposing access restrictions or by more indirect means, for example, by a choice of standards and rules that are inappropriate, or difficult to adopt.242

This section discusses:

• the operation of clearing infrastructures and lack of inter-system competition;

• the need to adapt to different national standards;

• different classes of membership and special requirements for direct members;

• the “need to be a bank” requirement; and

• fees and fees structure.

238_{For further details see page 132 of 'Interim Report II: Current Accounts and Related Services'.}

239_{The Dutch system has been excluded from the simulation as fees are negotiated by Interpay and its clients on}

a case-by-case basis. The Swedish system has been excluded as available data are not sufficient to calculate clearing prices charged to credit institutions.

240 _{In Cyprus (JCCTransfer), Greece (DIAS), Lithuania (LITAS and KUBAS), the price per transaction does not}

depend on the bank size.

241_{See also BIS (March 2003): Policy issues for central banks in retail payments.}

242_{A separate issue is whether banks can use infrastructure arrangements to raise rivals’ costs, or indeed to}

exclude them entirely. A variety of mechanisms would in principle be available to support such a strategy, ranging from ownership of infrastructure through control of technical standards, intellectual property rights etc.

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Operation of clearing infrastructures and lack of inter-system competition

In most countries there is only one retail clearing infrastructure that is operated either by the National Central Bank or by a membership associations controlled by (the main) banks operating in the country. The existence of one 'dominant' system can be explained by the specific structural characteristics of the market, i.e. economies of scale and network effects. Even though consolidation process in payment systems market may be justified by economic reasons, competition may still help provide lower prices and a greater range of services. When a joint-venture of banks owns and manages the infrastructure, the decision- making body is normally composed of the largest participants. This factor may raise anti- competitive concerns, as discussed further below. 243

The same banks are often members of different payment systems (e.g. card and non-card systems, national and cross border systems). This can create conflict of interests for members and reduce incentives for inter-system competition, as a bank that is a member of a payment system may have less incentive to promote a strategy of intense competition with another network it participates in. For example, major payment card schemes have a clearing system which does not compete with other clearing systems.

In August 2005 the European Central Bank published a policy statement244 _regarding central banks’ provision of retail payment services to credit institutions in euros. This statement mentions possible competition problems and recognises the importance of avoiding competitive distortions or crowding-out of market initiatives when NCBs provide retail payment services to credit institutions.

Need to adapt to different national standards

Member banks normally have to respect certain technical specifications, and a testing and certification procedure. In some systems this can take between 6 and 12 months. Banks that operate in different Member States need to adapt to some 25 different procedures and technical standards.

Different classes of membership and special requirements for direct members

Various clearing systems distinguish between different classes of membership, although to varying degrees. From a competition point of view, arrangements are only relevant where they pose some risk of distorting the conditions under which the individual member institutions concerned compete with each other or under which potential new members can compete with the incumbent ones.

The distinction between “direct” ("principal") and “indirect” (“ancillary”, “affiliate” or others) members, in combination with a different participation in decision making and participation rights, requires further assessment. Firstly, an indirect member will depend on the “good will” of a direct member (a competitor in the downstream market) with whom the indirect member will have to negotiate an agency contract. This also adds an additional layer of intermediation to the system and possibly leads to an increase in total costs and/or a lengthening in the clearing cycles and/or an imposition of unfair requirements. At the same time, the possibility of joining a clearing system as indirect member could be seen as increasing the choice for smaller banks and niche players, who can benefit from not having to comply with the requirements linked to settlement and direct membership. Conditions of these contracts are not included in this report.

243_{As an example, in France only the 12 founding members participate in the main decisions concerning the}

system.

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Secondly, indirect members normally do not fully participate in the decision making process (determining prices, deciding on membership application, on technical standards and other rules). In practice, direct members might in some way decide the costs that all banks will have to bear to use the infrastructure.

Thirdly, direct members get better information than indirect members, both concerning the systems as a whole and the data they receive from indirect members. On this point, the collection of business-sensitive data through direct member banks as “agent” leads to a one-sided information exchange, as indirect members have to share their list of payments with principal members. The information collecting bank may therefore gain a competitive advantage over the indirect member. As the information collecting bank typically is a bank with voting rights on the scheme’s Board, such one-sided exchange of information may reinforce the concern that decisions might be taken that limit competition.

Concerning the possibility of becoming direct member, the investigation has shown that there are a number of requirements that banks have to meet in certain systems: such as a minimum level of activity, the need to become a shareholder of the owner of the infrastructure, the need to be member of the national banking association or the need to be operating in the country for a certain period of time. These rules are fixed by incumbents and may be difficult to meet by new entrants.

The “need to be a bank” requirement

All surveyed systems require members to be regulated financial institutions. Some of these schemes also require banks to be supervised by the NCB, or require a physical presence in the Member State. According to respondents, these restrictions address the need to ensure that a system is financially secure, minimise systemic risk and ensure that new members are able to interact properly from a technical and operational perspective. However, while the oversight by NCBs may be an efficient tool to guarantee the financial reliability of players acting in payment systems, it could be worthwhile to explore other ways to achieve financial stability within these systems. The proposal for a Directive for a New Legal Framework (NLF)245 _{for Payments in the Internal Market is also meant to open up EU} payment systems to non-banks. Many replies to the public consultation highlighted the concern shared by credit institutions in relation to the openness of clearing infrastructure to the so-called “payment institutions”. They argue these latter should be subject to the same prudential requirements in order to ensure a level-playing field among supervised and non supervised institutions.

The exclusion of non-banks means that non-bank enterprises cannot be direct members of the clearing system. This also means that non financial institutions (such as some processors or customers) are not involved in a network’s decision making and thus a network may develop in ways that do not meet the needs of a significant sector of users. Concern has also been expressed that the inability of corporate clients to access clearing systems directly might tie them unduly into their current banking arrangements. For example, in their responses to the public consultation, some credit unions’ organizations complained of their members' inability to directly access retail payment systems some Member States. It was argued that this would leave credit unions at a competitive disadvantage in supplying retail banking services.

It is worth noting that in STEP 2, currently the sole pan-European clearing system, only banks can be direct members. This requirement has been criticized by one clearing infrastructure as restrictive. Linkages between clearing houses could possibly expand the availability of their services to a wider group of financial institutions and their customers.

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Fees and fees structure

In certain Member States the way in which the fee system is structured could potentially be considered a barrier to entry for new or small players. The joining, annual and transaction fees of the multilateral inter-bank networks are generally set by boards made up of representatives of their shareholders, who are also (some of) the network’s members. Fees paid by the new members in some cases cover initial members’ costs for developing the scheme.

However, the question arises as to whether joining fees charged hamper effective competition by dissuading entrants or raising their cost significantly. In one country, one bank withdrew its request to participate in the system, allegedly because of the high entry fee. One bank pointed out that the fee system in one clearing house, by offering large volume discounts, creates a competitive advantage for the largest entities. Regressive fees on the basis of volume also apply in other systems. As was shown in the simulation exercise in Interim Report II, volume discounts provided through regressive fees per transaction or fixed fees (one-off and periodical) may influence banks with low transaction volume, typically new entrants or niche players, in their choice to enter a market. Nevertheless, the welfare effects of such pricing policies in terms of welfare are ambiguous. Consequently, the effects that a specific pricing structure can produce should be assessed on case-by-case basis.