Interchange fee rate, merchant discount rate, and retail price in a credit card network : a game-theoretic analysis

Hangfei GUO, Mingming LENG, Yulan WANG

Research output: Journal PublicationsJournal Article (refereed)Researchpeer-review

4 Citations (Scopus)

Abstract

We consider two game-theoretic settings to determine the optimal values of an issuer's interchange fee rate, an acquirer's merchant discount rate, and a merchant's retail price in a credit card network. In the first setting, we investigate a two-stage game problem in which the issuer and the acquirer first negotiate the interchange fee rate, and the acquirer and the retailer then determine their merchant discount rate and retail price, respectively. In the second setting, motivated by the recent US bill “H.R. 2695,” we develop a three-player cooperative game in which the issuer, the acquirer, and the merchant form a grand coalition and bargain over the interchange fee rate and the merchant discount rate. Following the cooperative game, the retailer makes its retail pricing decision. We derive both the Shapley value- and the nucleolus-characterized, and globally-optimal unique rates for the grand coalition. Comparing the two game settings, we find that the participation of the merchant in the negotiation process can result in the reduction of both rates. Moreover, the stability of the grand coalition in the cooperative game setting may require that the merchant should delegate the credit card business only to the issuer and the acquirer with sufficiently low operation costs. We also show that the grand coalition is more likely to be stable and the U.S. bill “H.R. 2695” is thus more effective, if the degree of division of labor in the credit card network is higher as the merchant, acquirer, and issuer are more specialized in the retailing, acquiring, and issuing operations, respectively.
Original languageEnglish
Pages (from-to)525-551
Number of pages27
JournalNaval Research Logistics (NRL)
Volume59
Issue number7
DOIs
Publication statusPublished - 1 Oct 2012

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Discount
Interchanges
Coalitions
Cooperative Game
Game
Retailing
Nucleolus
Shapley Value
Costs
Personnel
Pricing
Division
Likely
Interchange fee
Retail prices
Discount rate
Credit cards
Merchants
Industry

Keywords

  • interchange fee rate; merchant discount rate; Nash bargaining; Stackelberg game; supermodularity; Shapley value; nucleolus

Cite this

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title = "Interchange fee rate, merchant discount rate, and retail price in a credit card network : a game-theoretic analysis",
abstract = "We consider two game-theoretic settings to determine the optimal values of an issuer's interchange fee rate, an acquirer's merchant discount rate, and a merchant's retail price in a credit card network. In the first setting, we investigate a two-stage game problem in which the issuer and the acquirer first negotiate the interchange fee rate, and the acquirer and the retailer then determine their merchant discount rate and retail price, respectively. In the second setting, motivated by the recent US bill “H.R. 2695,” we develop a three-player cooperative game in which the issuer, the acquirer, and the merchant form a grand coalition and bargain over the interchange fee rate and the merchant discount rate. Following the cooperative game, the retailer makes its retail pricing decision. We derive both the Shapley value- and the nucleolus-characterized, and globally-optimal unique rates for the grand coalition. Comparing the two game settings, we find that the participation of the merchant in the negotiation process can result in the reduction of both rates. Moreover, the stability of the grand coalition in the cooperative game setting may require that the merchant should delegate the credit card business only to the issuer and the acquirer with sufficiently low operation costs. We also show that the grand coalition is more likely to be stable and the U.S. bill “H.R. 2695” is thus more effective, if the degree of division of labor in the credit card network is higher as the merchant, acquirer, and issuer are more specialized in the retailing, acquiring, and issuing operations, respectively.",
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Interchange fee rate, merchant discount rate, and retail price in a credit card network : a game-theoretic analysis. / GUO, Hangfei; LENG, Mingming; WANG, Yulan.

In: Naval Research Logistics (NRL), Vol. 59, No. 7, 01.10.2012, p. 525-551.

Research output: Journal PublicationsJournal Article (refereed)Researchpeer-review

TY - JOUR

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AU - GUO, Hangfei

AU - LENG, Mingming

AU - WANG, Yulan

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Y1 - 2012/10/1

N2 - We consider two game-theoretic settings to determine the optimal values of an issuer's interchange fee rate, an acquirer's merchant discount rate, and a merchant's retail price in a credit card network. In the first setting, we investigate a two-stage game problem in which the issuer and the acquirer first negotiate the interchange fee rate, and the acquirer and the retailer then determine their merchant discount rate and retail price, respectively. In the second setting, motivated by the recent US bill “H.R. 2695,” we develop a three-player cooperative game in which the issuer, the acquirer, and the merchant form a grand coalition and bargain over the interchange fee rate and the merchant discount rate. Following the cooperative game, the retailer makes its retail pricing decision. We derive both the Shapley value- and the nucleolus-characterized, and globally-optimal unique rates for the grand coalition. Comparing the two game settings, we find that the participation of the merchant in the negotiation process can result in the reduction of both rates. Moreover, the stability of the grand coalition in the cooperative game setting may require that the merchant should delegate the credit card business only to the issuer and the acquirer with sufficiently low operation costs. We also show that the grand coalition is more likely to be stable and the U.S. bill “H.R. 2695” is thus more effective, if the degree of division of labor in the credit card network is higher as the merchant, acquirer, and issuer are more specialized in the retailing, acquiring, and issuing operations, respectively.

AB - We consider two game-theoretic settings to determine the optimal values of an issuer's interchange fee rate, an acquirer's merchant discount rate, and a merchant's retail price in a credit card network. In the first setting, we investigate a two-stage game problem in which the issuer and the acquirer first negotiate the interchange fee rate, and the acquirer and the retailer then determine their merchant discount rate and retail price, respectively. In the second setting, motivated by the recent US bill “H.R. 2695,” we develop a three-player cooperative game in which the issuer, the acquirer, and the merchant form a grand coalition and bargain over the interchange fee rate and the merchant discount rate. Following the cooperative game, the retailer makes its retail pricing decision. We derive both the Shapley value- and the nucleolus-characterized, and globally-optimal unique rates for the grand coalition. Comparing the two game settings, we find that the participation of the merchant in the negotiation process can result in the reduction of both rates. Moreover, the stability of the grand coalition in the cooperative game setting may require that the merchant should delegate the credit card business only to the issuer and the acquirer with sufficiently low operation costs. We also show that the grand coalition is more likely to be stable and the U.S. bill “H.R. 2695” is thus more effective, if the degree of division of labor in the credit card network is higher as the merchant, acquirer, and issuer are more specialized in the retailing, acquiring, and issuing operations, respectively.

KW - interchange fee rate; merchant discount rate; Nash bargaining; Stackelberg game; supermodularity; Shapley value; nucleolus

UR - http://commons.ln.edu.hk/sw_master/1610

U2 - 10.1002/nav.21505

DO - 10.1002/nav.21505

M3 - Journal Article (refereed)

VL - 59

SP - 525

EP - 551

JO - Naval Research Logistics

JF - Naval Research Logistics

SN - 0894-069X

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ER -