Legislative & Regulatory Update

​DakCU sounding alarm over interchange fee cap, urging policymakers to reconsider measures that compromise foundational principles of credit unions. 

by John Alexander, Director of Legislative & Regulatory Affairs

Credit Unions Stronger Together!
The Dakota Credit Union Association (DakCU) is sounding the alarm over proposed revisions to Regulation II's debit interchange fee cap, fearing it could severely impact the financial stability of credit unions and the communities they serve across North Dakota and South Dakota. Representing 62 credit unions with a collective membership of over 539,000, DakCU is deeply concerned that the Federal Reserve Board's methodology underestimates the operational costs for smaller institutions, potentially forcing them to increase fees or cut essential services, thereby disadvantaging their members. This concern is not just about numbers on a balance sheet but about preserving access to affordable, inclusive financial services for those who need them most. Read more below for our letter to the Board of Governors of the Federal Reserve System on REG II.

Insights & Impact on Dakota Credit Unions
The proposed reduction in the interchange fee cap could significantly strain credit unions financially, challenging their ability to effectively serve their communities. The Federal Reserve needs to reassess its methodology and regulatory framework to ensure it more accurately reflects the unique challenges and operational models of credit unions. This careful consideration is crucial for maintaining their ability to effectively support their members.
This need for revision becomes urgent as we consider the implications of reducing the debit interchange rate cap under Regulation II. Such reductions are likely to pose serious challenges for smaller, community-oriented credit unions that inherently face higher operational costs compared to their larger counterparts. The justification for reducing the rate cap is based on broad data suggesting a general decrease in the costs associated with issuing debit transactions. However, this data does not capture the distinct economic realities of credit unions, which, due to their smaller scale, do not benefit from the economies of scale that bolster larger institutions, thus enduring higher per-transaction costs.

This oversight in the Federal Reserve's methodology fails to account for the unique cost burdens specific to credit unions. As a result, transaction costs for these institutions have not decreased in proportion to those of larger institutions. This discrepancy impacts credit unions disproportionately, potentially escalating their operational costs and placing them at a competitive disadvantage in the financial services market.

Additionally, the proposed rule does not adequately address the specific challenges and higher costs associated with fraud prevention for credit unions. The existing and proposed reduced caps could further strain the financial viability of credit unions, forcing them to either increase fees for their members or reduce services, which directly contradicts their community-supportive mandate.

Historical evidence underscores the potential negative impact of regulatory changes like those proposed in the amendments to Regulation II on interchange fees. Following the Durbin Amendment's implementation in 2011, which aimed to cap interchange fees, many financial institutions adjusted by decreasing the availability of free checking accounts and increasing other fees, disproportionately affecting low-income and minority communities.
The potential long-term effects on financial inclusion initiatives are significant. Services such as free checking accounts, low-cost money transfers, and accessible emergency loans might become financially unsustainable. Consumers might then turn to high-cost alternatives like payday loans, known for their exorbitant fees and interest rates, undermining the financial stability of low-income individuals and hampering broader financial inclusion efforts.

Given these points, the proposed reduction in interchange fees, if not carefully calibrated, poses a significant risk of reversing the progress made in financial inclusion, especially for the most vulnerable populations. It is imperative for regulatory bodies to consider these potential outcomes and the historical context of similar regulatory changes when assessing the impact of new rules on interchange fees. This consideration is essential to ensure that policies do not inadvertently exacerbate financial exclusion for underserved and economically vulnerable communities.
The current regulatory framework includes technical exemptions for smaller financial institutions, ostensibly protecting them from the interchange fee caps. However, the reality of market dynamics means that these exemptions do not fully insulate exempt issuers from the economic impacts of these regulations. Despite these exemptions, the proposed changes to Regulation II’s interchange fees could significantly affect these smaller, exempt issuers. When fee caps are applied to larger institutions, it often results in reduced fee income for all issuers due to standardized fee structures across payment networks, causing fee compression that affects even those issuers that are nominally exempt.

The potential unintended consequences of regulatory changes are substantial and multifaceted. Reduced interchange revenue could jeopardize the financial viability of services offered by smaller institutions, particularly those designed for low- and moderate-income members. The added financial pressures from reduced interchange fees could accelerate industry consolidation, which would reduce the diversity and number of credit unions. This contraction leads to less competition and could potentially increase costs for consumers, especially in underserved areas where community-focused credit unions are pivotal.

Given these significant implications, the proposed amendments to Regulation II, specifically the reduction of the interchange fee cap, emerge as a direct threat to the progress credit unions have made in enhancing financial accessibility for vulnerable communities. These changes could disproportionately burden credit unions, which are already grappling with substantial operational and fraud prevention costs. The looming threat of having to either scale back critical services or impose additional fees on members hangs heavy—actions that starkly contradict their foundational mission of nurturing community financial needs.

Therefore, we firmly oppose the proposed reduction in the interchange fee cap. This policy shift would disproportionately impact smaller, community-oriented credit unions by inflating their operational costs and undermining their capability to effectively support their members. By disregarding the unique economic realities and heightened fraud prevention costs that credit unions contend with, this change risks compelling them to either increase member fees or curtail essential services. Such measures would severely undermine their mission to foster community financial well-being, a goal that remains at the heart of our advocacy efforts. As we continue to navigate these challenging regulatory landscapes, we urge policymakers to reconsider measures that would inadvertently compromise the foundational principles of credit unions, ensuring that financial support remains robust and accessible for all community members.
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As always, DakCU members may contact John Alexander with any regulatory or legislative questions or concerns.