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Capital One Financial Corp.’s possible purchase of Discover Financial Services could prove a costly shake-up for credit-card users, according to consumer advocates and payments experts.  

The potential $35 billion merger has prompted concern from consumer groups, who say it could allow Capital One
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to push annual percentage rates on credit cards even higher in an already-high interest-rate environment. 

Others say the most notable potential change could happen on the back end of the credit-card equation if Discover
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gets a much larger stage for its payment network. Discover is one of the few credit-card issuers to use its own network to process payments.

At a time when lawmakers want to break up Visa
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and Mastercard’s
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dominance in the payments market, the question is whether increased competition from another network could increase the “swipe fees” that merchants pay — and if customers would bear the cost.   

If Capital One’s acquisition gets regulatory approval, it would create the largest card issuer as measured by card loans outstanding, according to some counts.  

Capital One and Discover did not immediately respond to requests for comment. 

Could the Capital One-Discover deal lead to higher APRs on credit cards?

The massive size of the deal is not sitting well with Sen. Elizabeth Warren, a progressive Democrat from Massachusetts. 

The merger “threatens our financial stability, reduces competition, and would increase fees and credit costs for American families,” she tweeted Tuesday. “The Wall street deal is dangerous and will harm working people. Regulators must block it immediately.”

It’s too early to tell exactly how combining the two credit-card issuers could impact the companies’ customers, experts told MarketWatch.

Changing terms and conditions would have to be communicated 45 days in advance to cardholders and would only apply to future purchases, Greg McBride, chief financial analyst at Bankrate, said in a statement.

But bigger credit-card issuers do tend to charge customers higher interest on their credit cards than smaller institutions do — as much as $400 to $500 more each year, according to an analysis last week from the Consumer Financial Protection Bureau.

The liberal-leaning advocacy group Accountable.US, citing the CFPB’s findings, said the Capital One-Discover deal could be a “raw deal” for consumers, leading to higher APRs on credit cards. “The deal also portends more junk fees, including higher service charges and late fees,” Accountable.US said in a statement.

“It’s really hard to say if this will definitely lead to higher interest rates,” Adam Rust, director of financial services at the Consumer Federation of America, told MarketWatch. “What research is suggesting is that it could.”

Even if larger card issuers have more pricing power, there are forces outside their control that affect APR levels — starting with the Federal Reserve, which has kept its benchmark interest rate at a two-decade high in order to fight inflation. 

And higher APRs haven’t kept many households from swiping their cards. Business has flourished for card issuers as consumers have turned to credit to fuel their spending. Americans’ total amount of credit-card debt has reached a record of $1.13 trillion, and delinquencies are up, too. 

“Consumers have over $1 trillion in credit-card debt. These are two of the largest credit-card issuers,” Rust said. “Is this one more thing that tips the balance between credit-card companies and regular households? I fear it does.”

How new competition for Visa and Mastercard could affect consumers

Aside from what Capital One’s acquisition of Discover could mean for credit-card APRs, some say the emergence of a payment network that could compete with Mastercard and Visa is the bigger story.

By acquiring Discover, Capital One would also own the card issuer’s payment network.

The combined company would be able to “compete with the largest payments companies and deliver enhanced value to a franchise of over 100 million customers,” Capital One said when announcing the acquisition. 

Visa and Mastercard are the two dominant payment networks. Compared with those companies, Discover’s network is much smaller.

Payment networks charge interchange fees, or “swipe fees,” to merchants that accept credit-card payments. The fees are typically 2% to 3% of the transaction amount. Most merchants build the charges into the cost of doing business, meaning that consumers don’t pay them directly — though shoppers might see them reflected in higher prices. That’s one reason some businesses offer a discount for paying in cash.

Card issuers like Capital One also take a piece of the swipe fee, and higher fees boost their revenues — an arrangement that some say can disadvantage businesses that take credit-card payments.

Some business groups have complained that Visa and Mastercard control so much of the payment processing marketplace that merchants have little choice but to pay the price they set. Swipe fees are most retailers’ highest operating cost after labor, according to the National Retail Federation.

Increased swipe fees could also lead to enhanced credit-card rewards programs

If Discover’s payment network becomes a more powerful player thanks to the Capital One deal, there’s a chance that Visa and Mastercard might raise their swipe fees, said Lulu Wang, a finance professor at Northwestern University’s Kellogg School of Management. Raising swipe fees increases the amount that card issuers can collect on those charges too, offering an incentive to continue using their payment network, he said.

“The most likely effect of this is potentially higher fees on merchants,” Wang told MarketWatch. “This makes it such that Visa and Mastercard are going to face pressure to raise fees on merchants to keep banks like Capital One onboard their network.”

A swipe fee only kicks in if a consumer wants to swipe their credit card. There’s a link between higher swipe fees for merchants and more rewards for credit-card users, Wang has found.

Credit-card companies have said the revenue from swipe fees helps them provide the airline miles, dining points and other perks that so many cardholders enjoy — giving card users incentive to swipe while also boosting the swipe fees that issuers collect.

So if swipe fees rise, Wang said it’s reasonable to think credit-card reward programs could improve for consumers.

If businesses absorb any increased swipe fees, that’s a win for consumers, he noted. If businesses pass along the costs, credit-card users win by accessing the higher rewards, but cash users have nothing but higher prices to pay. 

How the Capital One-Discover deal relates to the Credit Card Competition Act

Doug Kantor, an executive committee member at the Merchant Payment Coalition, thinks the Capital One-Discover deal would have a minimal impact on the current swipe fee landscape. Instead, he sees the acquisition as a way for Capital One to prepare for new credit-card regulation taking shape in Congress that targets those interchange charges.

“It seems more geared toward Capital One getting ready for the Credit Card Competition Act,” he said, referring to the legislation proposed by Sen. Dick Durbin, a Democrat from Illinois, last summer.

The proposed law targets Visa and Mastercard and would require credit-card issuers to offer merchants at least two networks over which they could opt to process payments — one of which couldn’t be the two largest.

Airlines, travel firms and financial institutions have argued that the bill would place unnecessary restrictions on processing and would ultimately scrap credit-card rewards programs by dinging issuers’ profits.

The bill won two new bipartisan cosponsors last week and is gaining some “big momentum,” Kantor said. 

Ed Mierzwinski, senior director of U.S. PIRG’s federal consumer program, expects Capital One’s acquisition to face “incredible scrutiny” from lawmakers and regulators.

“In the short run, the biggest question is: What will Senator Durbin do?” he said. 

If the bill does pass, having its own payment network over which to process some cards could offer Capital One a key advantage, Wang said. 

“This merger is great insurance against that law,” he said.

What are your biggest questions about credit cards, and the Capital One-Discover deal? If you’d like to share your thoughts, write to readerstories@marketwatch.com. A reporter may be in touch.

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