Subcommittee on Financial Institutions

Hearing on Competition and Innovation in the Credit Card Industry
at the Consumer and Network Level

10:00 a.m., Thursday, May 25, 2000 - Dirksen 538

Prepared Testimony of Mr. Noah Hanft
Senior Vice President & General Counsel
MasterCard International

Good Morning. Mr. Chairman, Members of the Committee, thank you for allowing me to testify today on behalf of MasterCard International. As you know, in the next few weeks, we will begin presenting arguments on issues related to competition in the payments market when the trial initiated by the Department of Justice begins in New York. However, we appreciate the opportunity to demonstrate to this Committee how intensely competitive the payments industry is, and how the current system has fostered that competition for more than 25 years.

We understand this hearing is focused on competition at both the consumer and systems levels. Ultimately, of course, any assessment of competition at every level must be focused on the consumer. The fact is, Mr. Chairman, that consumers reap the benefits of competition every day in the marketplace. Today, the American consumer has the broadest choice of payment vehicles available anywhere in the world.

Most American consumers, and we suspect the Members of this Committee, have a payment card. In fact, the average household has more than four cards. We're sure most American consumers share one experience on an almost daily basis -- when they check their mailbox each day, they find yet another offer for another credit card, offering a better deal on rates or fees, or other new benefits.

The democratization of credit under the existing industry structure has made payment cards available to just about every American. Consumers are offered cards with low fees, with no fees, with fixed or variable rates, and with cash rebates, airline miles or credit towards buying gasoline or even purchasing a car. They are offered cards that will contribute to a favorite charity or which are linked to a favorite organization. American consumers are offered cards by literally thousands of independent competitors.

In fact, there are today more than 7,000 U.S. card issuers, which offer more than 27,000 different types of payment card programs. They mail almost 3 billion offers to Americans every year. Choices abound. Anybody with a mailbox knows that this is a highly competitive business.

American consumers also benefit from an ever-increasing choice of places where they can use their cards. It was not so long ago that a trip to the grocery store meant payment by cash or check. Today a consumer has the choice of cash, check, credit, debit, or other emerging new forms of payment. Payment card acceptance continues to be extended to an ever-wider variety of merchant categories such as movie theaters, doctors' offices, pharmacies, utilities, and even the IRS. Nowhere else in the world are cards more available, nowhere else are more types of cards available, and nowhere else are there more places where cards are accepted. It's the promise of universal acceptance for the consumer and guaranteed payment to the retailer that has driven the growth of payment cards.

This is the general competitive landscape of the payment card industry.

As you know, in a little over a week, a trial examining specific areas of competition will begin in Federal Court in New York. The suit addresses two aspects of the payment card industry: 1) it challenges the current industry structure under which banks that are members of the MasterCard network or the Visa network have the ability to issue both MasterCard cards and Visa cards, and 2) it challenges the MasterCard policy and Visa rule prohibiting the issuance by our respective member institutions of competing cards of proprietary businesses, like American Express or Discover.

Ultimately, this case will be adjudicated in the court, and MasterCard is confident that it will prevail on both counts. However, one thing is abundantly clear. American Express' multi-year efforts at lobbying the Department of Justice to pursue this case are in no way aimed at benefiting the consumer. In fact, if the Department of Justice prevails -- and we believe they will not -- the end result would be a victory not for competition and consumers, but for American Express.

In my remarks today, I'm not going to go into the detailed arguments we'll address in the courtroom in a few days. Rather, Mr. Chairman, I'd like to focus on four specific points about the competitive nature of the payment card industry:

In contrast to American Express and Discover, which are proprietary and fully-integrated systems, MasterCard is an open association of competing financial institutions which, by its structure, benefits both its members and consumers.

The vigorous and healthy competition generated by the current structure has been the hallmark of the payments industry for the past 25 years, resulting in the democratization of credit and an ever-expanding range of competitive payment options.

The antitrust laws are designed to protect competition, not individual competitors. Changing the current structure would do nothing to benefit consumers; it would only benefit a single competitor -- American Express, which is already, by dollar volume, the largest issuer in the industry.

The American consumer benefits from competition, not by allowing one competitor to derive an unfair advantage. By allowing American Express to "free-ride" on the investment of MasterCard and its members and cherry-pick select members from MasterCard's only distribution channel, the consumer misses out on the benefits of competition. Indeed, American Express, which has flourished over the last several years, now wants to grow through government intervention rather than by lowering price or adding value.

Industry Structure

At the outset, it is important for the Committee to understand an important fact: MasterCard and American Express are fundamentally different.

MasterCard does not issue cards, its member banks do; American Express is, by dollar volume, the largest issuer of cards in the United States.

MasterCard is a non-stock membership corporation comprised of its member financial institutions; American Express is a highly profitable public corporation.

MasterCard does not contract with merchants to accept payment cards -- its member financial institutions establish and maintain these relationships. MasterCard, by its structure, is reliant upon its member institutions to cooperate in order to complete transactions efficiently over the MasterCard network. American Express directly establishes its own relationships with merchants, and directly controls the entire transaction process.

MasterCard is an "open association" that is made up of tens of thousands of member institutions around the world that issue cards and sign merchants to accept MasterCard. As an open system, all qualified member financial institutions can gain membership in our association, where there is intense competition among members for every aspect of individual cardholder and merchant accounts, but cooperation in the advancement of the brand and development of the infrastructure. Without interference from MasterCard, each member determines the fees it will charge, the interest rates for its cards, value-added features, and a range of other competitive services. The strength of the system is its membership -- its sole distribution channel. By definition, anything done by the association benefits each member of the association. Visa also is an open system, and they also have thousands of issuer banks.

By its own choice, American Express is different. American Express is a system -- which is not open like ours, but rather closed. And American Express is an issuer -- in fact, by dollar volume, American Express was the largest issuer of credit cards in the United States in 1999. Under American Express' "closed system," it is the sole owner of the entire transaction process, controlling all competitive aspects of the card. And like any other issuer, it has equal access to offer its card to every current or potential cardholder in the United States.

As we discuss the issues raised by this case, the significance of these distinctions becomes clear. And what they will demonstrate, and what we believe the trial will bear out, is that American Express does not want to open up its system like MasterCard. Instead, American Express wants to pick off only certain banks -- a select few. It wants to undercut the brand dedication and the billions of dollars of joint investment MasterCard and its membership have made over the last 30 years. In a sense, one can't blame them. It would be nice to have someone else build a house, pay the mortgage, and then you get to move in. Even nicer to have the Antitrust Division carry you over the threshold.

Industry History

Before there was a MasterCard card or a Visa card, there was an American Express card. Although American Express did not invent the credit card, it dominated the industry. Banks began to offer individual cards, but acceptance was limited to the local clientele of each bank.

Then came the creation of the bankcard associations. MasterCard and Visa vigorously pursued bank participation in their respective networks -- but American Express did not -- and competition proliferated. The associations gave the banks nationwide, and ultimately global, acceptance networks, and the means to "interchange" transactions with other banks. It is widely recognized that most joint ventures involve some trade-off in competition. This is not the case for the bankcard joint ventures where each individual issuer retains the complete freedom to set all competitive terms such as fees, interest rates, and the like.

Many of you may not be aware of the long-standing differences between the MasterCard and Visa associations. The first point of departure dates back to the inception of the bankcard associations. From its early days, MasterCard has favored the structure known as duality, which is nothing more than the absence of a restraint on financial institutions participating in both membership associations. Visa, however, began with a rule requiring exclusivity. Its members could not also belong to the MasterCard network. In the mid-70s, a bank brought a suit challenging Visa's policy of exclusivity. Visa asked the Department of Justice, through its Business Review process, to support its exclusivity rule or confirm that the rule was not in violation of the antitrust laws. The Department's response was equivocal at best.

Lacking the support of the Department of Justice, Visa abandoned its rule of exclusivity, and the practice of duality came into being. Most issuing banks eventually joined both associations, and most of the remarkable innovation and output expansion that has taken place in the credit card industry has been in the context of duality. This is an important point because the Department of Justice had a clear and guiding hand in establishing the duality structure. Now, the Department of Justice wants to blow up the structure that they themselves helped to build, which has resulted in intense competition and extraordinary innovations -- all to the benefit of the American consumer. That's why this structure needs to be protected and why MasterCard has chosen to defend this lawsuit.

For a number of years, American Express thrived. But steadily banks began to make inroads into the dominance of American Express. Financial institutions began to offer attractive incentives to consumers to hold and use a bankcard rather than an American Express card. For example, bankcards began to offer airline co-branded cards with which consumers could earn airline miles. American Express chose not to. Indeed, it is a matter of public knowledge that American Express declined the opportunity to issue a co-branded card with American Airlines. After being rejected by American Express, American Airlines joined with Citibank to issue what turned out to be one of the most successful co-branded cards in history.

A similar story occurred in 1990 with the development of the extraordinarily popular AT&T credit card. This innovative program, which combined calling card capability with credit card functionality, became the first no-annual-fee-for-life card in America. As it happens, it was yet another example of MasterCard and Visa going in different directions, as Visa opposed the issuance of the AT&T card and placed a moratorium on similar programs. American Express was offered the chance to issue the card and declined.

Were it not for MasterCard's independent decision to welcome AT&T and other new entrants into the card business, the AT&T credit card program, and other innovative awards programs which followed, like the General Motors MasterCard card and the Shell MasterCard card, might not be with us today. Moreover, most industry observers credit the AT&T MasterCard card with revolutionizing the marketing of cards by introducing no-annual-fee cards in a widespread way.

As American Express has conceded, other mistakes were made. American Express underestimated the consumers' desire to have a revolving credit line available and was therefore late to develop such a product. American Express also overestimated its ability to extract high fees from merchants. American Express' hefty merchant fees limited the willingness of merchants to participate in the American Express network and culminated in the infamous "Boston Fee Party," which led restaurants around the country to stop accepting the high-priced card.

The consequences of these mistakes faced Mr. Golub when he took over the reigns of American Express in the early 90s. He also faced the fact that the banks, issuing their own cards through the associations, were developing more and more products aimed directly at segments such as corporate cards, which American Express had long regarded as its private turf.

Mr. Golub has done much to change the direction of American Express. He has increased the size of his merchant network by lowering his merchants' fees, although they remain significantly higher than the fees paid by merchants for MasterCard acceptance. He has followed MasterCard and the banks into co-branding, the most notable example being the American Express Optima Delta airline card. He has built his revolving credit business; indeed, last year American Express grew its revolving credit card business by a larger percentage than any other major issuer.

But it seems as if competing on the merits is not enough for American Express. Now, they apparently desire to "free ride" on the investment of MasterCard and its collective membership. They would like us to stop putting competitive pressure on American Express -- particularly the competitive pressure on their merchant fees and their corporate card business.

Most importantly, they have decided that the best way for them to grow their bankcard business is to start issuing cards through MasterCard's network of banks. It's as if Burger King decided it wasn't selling enough french fries so, going forward, it would snare a few highly successful McDonald's franchisees, and have them sell Burger King fries. And, if McDonald's has a problem with that -- well, they should take it up with the Antitrust Division of the Department of Justice.

In 1996, Mr. Golub gave a colorful speech in Atlanta to a gathering of bankcard issuers. He offered to make the American Express system available to select card-issuing banks. While his comments primarily were aimed at Visa, not MasterCard, the points he made in his attempt to persuade the banks as to why he could offer them a better deal are quite illuminating of his motives -- motives clearly not intended to benefit consumers.

He argued that Visa had been spending too much association money developing new products, specifically products like corporate cards where American Express dominates.

That Visa had spent too much money on advertising and promotion in general.

That Visa had specifically engaged in too much advertising against American Express.

That Visa sets its interchange fees too low and at a level that forces American Express to lower its merchant fees. He told them: "Thus, as a Visa member, I would question how it is in my interest to have merchants push American Express to lower merchant rates as they did for years in the late 1980s and early 1990s?"

Now to me it doesn't sound like Mr. Golub is interested in more competition -- it sounds like he is concerned that there is too much competition. In fact, his remarks about discount rates sound suspiciously close to what antitrust enforcers refer to as an invitation to collude. And his offer to select banks confirms his real motives. He told them that if they would funnel their "convenience" users (those consumers who pay off their card balance each month) to the American Express system, they "would realize the advantages of the more economic merchant discount rates." By "more economic" Mr. Golub meant higher discount rates.

In other words, he urged selected banks to take transactions which are currently going through the MasterCard system at a lower fee to the merchants and switch them to American Express where the merchants would be charged a higher fee. It's not hard to see that this has to be bad for the consumer. Assisting American Express in its stated objectives runs contrary to the rationale for antitrust enforcement. Indeed, it turns on its head the notion that the antitrust laws are designed to protect competition and consumers, not individual competitors. By bringing this case, the Department of Justice inexplicably finds itself in the position of protecting the high-cost provider -- at the expense of the American consumer.

Faced with American Express' stated desire to pick off select MasterCard card issuers and entice them with their higher merchant fees, MasterCard and its members were faced with a serious issue. MasterCard, as a membership association, is in the nature of a joint venture. Like all joint ventures, the terms of membership must assure that all members that benefit from the venture are dedicated to and support the venture. If select members are allowed to obtain the benefits of the venture without equally investing in the venture, other members will have fewer incentives to participate at all.

The American Express proposal confronted MasterCard with a situation where select members would be allowed to funnel transactions away from MasterCard and onto American Express, while those members could remain on MasterCard for other transactions. This is not the situation that MasterCard faces with Visa, since Visa is also an open association. It was in response to the American Express proposal that MasterCard enacted its Competitive Programs Policy to preserve the integrity of its membership structure.


Now, with this history in mind, I will briefly discuss some specific concerns that have been raised about duality and the Competitive Programs Policy. As you know, a federal judge in New York will begin to hear evidence concerning these issues in approximately two weeks. Therefore, I will not articulate our full legal position here but instead will speak to the broad ultimate issue: Have consumers benefited or been harmed by duality or our membership rules?


MasterCard has always played by the rules. As noted above, in the mid-70s, the Department of Justice declined to support exclusivity, and MasterCard proceeded to compete in a world of duality. MasterCard and its members grew their businesses -- in the context of duality -- investing billions of dollars in the development of the association and the MasterCard brand. There is no dispute that the competitive benefits of duality have been great -- even the Department of Justice is now forced to agree that duality is pro-competitive.

Duality allows an individual bank to play one association against the other and thereby obtain superior products and services, better price terms, and more innovation. The banks themselves will tell you that.

Under duality the industry has seen:

Democratization of credit, allowing more Americans to enjoy the benefits of the payment card system.

Reward programs, and other co-branding innovations.

Reductions in annual fees and other costs.

Continuous innovations to reduce fraud such as the introduction of the hologram by MasterCard.

The development of the magnetic stripe which enabled MasterCard to move to paperless transactions.

A significant reduction in the time it takes for a merchant to obtain authorization for each transaction.

And, as mentioned earlier, the dramatic extension of merchant acceptance to a wide range of industries.

The Department of Justice has now put forth a new argument. After blessing duality in the 1970s, and then investigating it for much of the 1990s, it now believes duality is pro-competitive. However, now they apparently also believe that the institutions that help govern the associations should not have the benefits of duality. So it seems they are saying that duality is pro-competitive, but the governance structure, which flows naturally from duality, is problematic.

Because of its pro-competitive benefits, most banks have chosen to avail themselves of dual issuance. And because MasterCard is the smaller of the two associations, the credit card portfolios of many banks have tended to favor Visa. As a matter of logic and simple arithmetic, one would expect that the MasterCard Board would include some members with significant Visa portfolios. Indeed, the management of MasterCard wants the ability to offer such members a seat on the Board as a means of identifying the institution with MasterCard. Far from limiting competition with Visa, it is a means for MasterCard to continue to grow volume at Visa's expense. In any event, it is a fact that most members of MasterCard's Board predominantly issue on the MasterCard system.

In fact, once again, Visa has taken a different position from MasterCard on duality, as it has announced it would be placing issuance requirements on its Board institutions. The Department of Justice apparently believes that somehow, some consumer benefit would flow from MasterCard mimicking Visa. We do not agree. Ironically, in the name of competition, the Department of Justice is encouraging the placement of restrictions on financial institutions, but at the same time is encouraging alliances between American Express and horizontal competitors.

MasterCard has long been the underdog in its competition with Visa and others. And, as you would expect in a competitive marketplace, as the underdog, MasterCard has historically been more flexible, and Visa and American Express more rigid, in reaction to possible change.

MasterCard is proud that it led the charge in co-branding while Visa was reluctant and American Express stood on the sidelines. And MasterCard is proud that it was in the forefront of expanding merchant coverage in order to give consumers a variety of payment options where previously they were limited to cash and checks. We were the first to use a laser hologram as an anti-fraud device, and we introduced the first bankcard with a tamper-resistant signature panel.

The Department of Justice filed its complaint against MasterCard following four years of investigation. Despite the fact that it had gathered hundreds of thousands of pages of documents from MasterCard and others, had interviewed or deposed dozens of industry participants, and had looked at the full 20-year period that duality had been in force, it was able to point to only four isolated examples where it believed that the governance structure had a negative effect on competition. And even those purported examples did not support the proposition for which they were offered, and in any event result from events long overtaken by the dynamics of the industry.

Once the complaint was issued, the Department of Justice embarked on the most massive discovery efforts in recent antitrust history. When discovery was completed, with a record of several million pages of documents and approximately 150 depositions, their four "examples" had fallen of their own weight and no new ones had emerged to take their place. The Department of Justice continues to assert that such examples exist, but we are content with the record as it exists and are confident the court will see that the Emperor has no clothes, and that the consumer has benefited from the dual structure of the industry.

Let me now move to our Competitive Programs Policy.

The Competitive Programs Policy

MasterCard's Competitive Programs Policy does not prevent banks from issuing on the American Express system -- if banks want to dedicate themselves to that system, they can. But they cannot have it both ways.

American Express asserts that it wants access to banks so that it can compete better. But of course we know from Mr. Golub's own words what they really want. They want to cherry-pick a few select banks that already are dedicated to the existing bankcard networks and slow down the level and intensity of competition American Express receives from MasterCard and Visa. Mr. Golub does not like his competitors to spend money to innovate, he does not want his competitors to advertise as much, and he wants his competitors to stop putting pressure on the high fees that he charges to merchants.

Putting aside its real motives, does American Express, one of the largest issuers of credit cards, really need other banks to issue on its system? Most credit cards are marketed through the mail -- financial institutions market cards through the mail and American Express markets cards through the mail. Everyone has equal access to America's mailboxes. In 1999, according to BAI Global's "Mail Monitor," 86 percent of applications for payment cards were generated in response to a mail solicitation. In fact, many of the most successful issuers are what are known as "monoline banks." They only issue credit cards. Some diversified banks may also "cross-sell" to their customers. But those "relationship customers" are, by far, the exception. American Express, a huge, broadly diversified financial services company, already has more opportunity than most to cross-sell to its own customers.

All of this supports the self evident proposition that every consumer who wants an American Express card can get one if American Express is willing to issue it to her or him. And American Express has access to every American consumer that it wishes to solicit. This is not an industry where the banks have some unique access to consumers. Where then is the consumer harm? It certainly isn't that consumers are denied access to American Express. And it is also not that American Express has been weakened as a competitor as a result of MasterCard's membership policy.

MasterCard did not pass its Competitive Programs Policy until 1996. To the degree that American Express has had problems, they occurred in the late 1980s and early 1990s before American Express pursued banks and before MasterCard enacted its policy. As I have already discussed, it is well documented in the press that those problems were brought about by the business decisions of American Express. MasterCard can take credit for those problems only in the sense that we were making the right competitive decisions when American Express was not. By the same token, we take no pleasure in observing that since 1996, with our Competitive Programs Policy in force, American Express has done nothing but prosper:

Its total credit card dollar volume has increased from $131 billion in 1996 to $186 billion in 1999, higher than any other credit card issuer in the United States.

In the last year alone, its credit receivables increased by 27.2 percent, and its total dollar volume increased by 12.6 percent.

It is not only the largest issuer of cards by dollar volume, it is now the fourth largest issuer based on credit receivables.

Having been forced to lower its merchant fees, its merchant network has increased dramatically.

Profit on American Express' travel-related services business -- which encompasses the American Express Card business -- rose 41 percent since 1996 to $1.56 billion in 1999.

For anyone to conclude that this is a picture of a company constrained from competing; that this is a company foreclosed from selling its products to consumers; that this is a company which is struggling and somehow needs federal help to survive, runs completely counter to the facts, to the framework of the industry, and to the basic principle of fundamental fairness.


In closing, let me say that it does not surprise me that American Express would want to undercut the MasterCard association. It does not surprise me that they do not want us to innovate, advertise, or put pressure on their high merchant fees. What is surprising is that the Department of Justice has not been able to discern -- or chooses to ignore -- the not so hidden agenda. If American Express gets its way, neither competition nor the consumer wins. The current structure works -- for consumers, for the banks, and for the associations. And -- although they don't like to admit it -- it works for American Express. The government's suit is a solution searching for a problem and, if successful, will create a problem where none exists today.

Thank you for this opportunity. I will be happy to answer any questions you may have.

Home | Menu | Links | Info | Chairman's Page