MAG Insights

Regulation II, the Federal Reserve ruling that regulated debit card interchange in the U.S., has not seen an update since it was issued in 2011. In that time, there have been changes to not only payments technology, but also consumer preferences and shifting channels of commerce. Regulation II has a stipulation in which the Federal Reserve can reassess the debit rate cap and its applicability given issuer costs, and in late 2023 they proposed the first update to the regulated rate since its introduction. Their proposal is open for public comments until May 12, 2024.

The original rule aimed to set the debit rate for banks with over $10 billion in assets under management at a level reasonable and proportional to their costs. This was set at $0.21 with a 0.05% addition to account for losses due to fraud. In addition, an extra $0.01 could be assessed to fund fraud mitigation services for issuers. 

The proposed rate reduction changes all three aspects of the debit rate. First, the core interchange cap would drop from $0.21 to $0.144, and the fraud losses adjustment would drop from 0.05% to 0.04%. Conversely, the one cent adjustment would increase to 1.3 cents for issuers who are utilizing fraud mitigation tools. All in all, this proposed change represents almost a 30 percent reduction in the cost of regulated debit cards for merchants.

Along with the proposed reduction, there is also a mechanism that would automatically and formulaically adjust the debit rate every two years, based on the average costs of regulated issuers for handling debit transactions. If this proposal were to pass in its current form, the rate would always be pegged to those average costs at a proportion of 3.7x. 

Ultimately, the proposed rule could significantly benefit merchants across all their commercial channels. However, the proposed mechanism of automatically updating the regulated debit cap every two years would effectively take its regulation out of the hands of the Federal Reserve going forward. The Fed followed up their proposal with an announcement of a comment period that was originally intended to close on February 12, 2024, but was extended by three months to May 12, 2024. The MAG will submit comments, and we encourage all merchant members to submit their own comments on how impactful this change could be. If you would like to be a part of the merchant-only working group to draft the comments, please reach out to Beth Provenzano or Josh Pynn for more information.

In the wake of the proposal, Representative Blaine Luetkemeyer (R-MO) proposed legislation that the Federal Reserve would need to ensure the proposal did not negatively impact various stakeholders, specifically consumers, in reducing the interchange associated with debit transactions. The bill outlines three key tasks the Fed would be required to complete before finalizing the proposed rule: complete a study of the impacts of the rule, complete a quantitative impact analysis, and then consider their results specifically regarding low-income consumers and issuing banks. 

This bill, if passed into law, would lead to significant delays in the rule being finalized and enacted. Completing the study and impact analysis could be a complicated task. Rep. Luetkemeyer publicly opposes the proposed rule and is quoted in the announcement of the bill introduction, “Studies from the GAO and the Federal Reserve itself show that the policy has significantly decreased access to free checking accounts for low-income families and increased the cost of banking services.”

The MAG staff is closely monitoring developments regarding the proposed rulemaking which would adjust the regulated debit rate and the methodology to determine that rate. If you are interested in getting involved in our efforts, please contact Beth Provenzano or Josh Pynn.