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U.S. Banks Are Changing Their Strategies To Mitigate The Financial Impact Of The Durbin Amendment

Publication date: 30-Apr-2012 15:59:41 EDT

Over the past few years, the U.S. banking industry has been working to comply with numerous regulatory reforms the government has enacted in response to the global financial crisis. The Dodd-Frank Wall Street Reform and Consumer Protection Act introduced significant regulatory changes for U.S. banks. The Durbin Amendment (Section 920) was a late addition to the Dodd-Frank Act that went into effect in October 2011. Its aim is to lower consumer prices and to support small businesses by capping debit card interchange ("swipe") fees that merchants pay to banks.

Consistent with our original expectations, the implementation of the Durbin Amendment has had no immediate impact on U.S. bank ratings. Banks have responded to the lost swipe fee revenue by introducing new bank service and product fees. Furthermore, there is little direct evidence that merchants have passed on the savings from lower interchange fees to their customers, suggesting that the legislation may be falling short on its goals for consumers.

Details About The Durbin Amendment

Historically, banks collected interchange fees to cover fraud prevention and other administrative costs. However, the revenues exceeded the cost of fraud prevention, making interchange fees highly profitable for banks. Broadly speaking, the Durbin Amendment's purpose is to limit the debit card swipe fees that merchants pay to banks. The rationale was that merchants would save money and then lower the prices of their products and services--ultimately benefiting consumers. The regulation gave the Federal Reserve the authority to oversee the fee limits. The Fed placed the interchange fee cap at approximately $0.22, down from approximately $0.44. The amendment applies to banks with assets of more than $10 billion.

The Durbin Amendment also targeted Visa and MasterCard's perceived duopoly over the card transaction network by forcing merchants to use more than one network provider to process card transactions. In addition, the amendment allows merchants to set a minimum purchase amount (up to $10) on debit and credit card transactions. In our view, this has had the most immediate impact on consumers and merchants.

U.S. Banks Are Taking Measures To Offset The Financial Impact

Standard & Poor's estimates that the Durbin Amendment's immediate financial impact for the banking industry is a $6.5 billion to $7 billion annual reduction in debit card-related revenue, representing about 1.5% of U.S. banks' total 2011 revenue. Bank of America, JPMorgan Chase, and Wells Fargo have absorbed the majority of these losses, considering the size of their debit card businesses relative to peers. Although several institutions saw their debit card revenues decline significantly after the legislation went into effect, they have been able to largely mitigate the initial impact by instituting new account fees and raising existing fees.

In addition, several banks have initiated cost cuts and income-generating measures. These actions have altered banks' operating strategies. On the cost savings side, some institutions, such as JPMorgan, are reviewing their branch expansion plans and operational models, opting to better use technology to cover basic teller functions and remove rewards programs for debit cards. On the revenue side, banks have begun experimenting with various fees for checking accounts. The most notable example was Bank of America's failed attempt to charge a $5 per-month debit card usage fee. BofA announced this initiative in late September 2011 and then withdrew it on Nov. 1 following customer outrage. Other institutions, such as Wells Fargo, are slowly implementing new service fees that customers can avoid by meeting certain criteria, such as minimum balances or regular direct deposits. In general, banks have taken steps to assure investors that the regulation's financial impact has been minimal and nonrecurring, and that plans are in place to recoup the lost revenue. However, considering recent developments with overdraft fees, the success of future revenue recovery may ultimately be subject to the reviews of the Consumer Financial Protection Bureau.

We believe the Durbin Amendment has been most material, on a relative basis, for some regional banks such as TCF Financial. Regulatory data show that, prior to the Durbin Amendment, debit and credit interchange fees often accounted for 10%-25% of the noninterest income of many smaller regional institutions. Most large banks, which typically have more ancillary fee-based businesses than the regional banks, have generally relied less on debit interchange fees.

For TCF Financial, debit card fees made up almost one-quarter of its noninterest income in the third quarter of 2011. The bank has responded to the effects of the interchange legislation by experimenting with new customer fee structures and with other strategic changes. Although the Durbin Amendment has not, in itself, led to negative ratings implications for these smaller banks, the effects of the Durbin amendment are not immaterial and can exacerbate other operational issues a bank faces (see table).

Estimated Impact Of The Durbin Amendment
Bank Projected annual cost (mil. $) As a percent of third-quarter 2011 TTM noninterest income As a percent of third-quarter 2011 TTM revenue

TCF Financial Corp.

58.8 10.21 4.97

TD Bank US Holding Co.*

220.0 7.30 3.67

Regions Financial Corp.

172.0 5.28 2.68

Huntington Bancshares Inc.*§

69.2 5.22 2.61

Commerce Bancshares Inc.*§

28.4 5.05 2.61

SunTrust Banks Inc.*§

200.0 4.62 2.38

PNC Financial Services Group

300.0 4.09 2.06

FirstMerit Corp.*§

14.4 4.06 1.99

Webster Financial Corp.

15.0 4.06 1.98

BBVA USA Bancshares Inc.§

62.5 3.98 1.97

M&T Bank Corp.

72.0 3.96 2.03

BancorpSouth Inc.

13.0 3.77 1.92

Bank of America Corp.

1,720.0 3.65 1.67

BancWest Corp.§

52.5 3.63 1.86

BOK Financial Corp.

22.5 3.61 1.88

Wells Fargo & Co.

1,460.0 3.59 1.77

Associated Banc Corp.*§

16.0 3.47 1.75

JPMorgan Chase & Co.

1,600.0 3.34 1.66

U.S. Bancorp

308.0 3.30 1.67

Cullen/Frost Bankers Inc.

14.0 3.29 1.65

BB&T Corp.

124.0 3.11 1.54

First Niagara Financial Group Inc.*§

16.0 3.10 1.54

Citizens Financial Group Inc.§

74.8 3.07 1.53

Fifth Third Bancorp§

92.4 3.07 1.53

Synovus Financial Corp.

17.0 2.98 1.54

First Horizon National Corp.*§

18.0 2.89 1.31

First Citizens BancShares Inc.

17.6 2.88 1.30

Zions Bancorporation

30.0 2.86 1.41


55.0 2.56 1.30

UnionBanCal Corp.§

25.5 1.56 0.78

BBVAPR Holding Corp.§

1.3 1.36 0.66

Valley National Bancorp

3.3 1.13 0.58

Santander BanCorp.§

1.2 0.51 0.26

UMB Financial Corp.§

1.6 0.47 0.24
*Estimate based on 10-K disclosure of impact of Durbin in fourth-quarter 2010. §Estimate based on annualized fourth-quarter 2011 sequential change in noninterest income. TTM--Trailing 12 months. Sources: Company 10-K filings and Standard & Poor's estimates.

Another factor that could offset the Durbin Amendment's impact on U.S. banks is the potential shift to greater credit card usage. The interchange fee limit--and the merchant processing networks criteria--refers only to debit cards, which could give consumers incentive to use their credit cards more to pay for smaller purchases. An increase in credit card usage could generate higher-profit-margin business for large banks and credit card issuers because of the interest rates applied to carried balances. However, we have yet to see significant evidence of this as many customers continue to lower their debt and some large issuers continue to reduce their credit card books. Further, the Durbin Amendment appears to have altered consumer behaviors as merchants, through minimum debit card transaction amounts, have encouraged consumers to forgo the convenience of card payment in lieu of paying with cash.

From a ratings perspective, the Durbin Amendment has not had a widespread or immediate impact on U.S. banks. We will continue to monitor any declines in revenue that could result from the legislation and factor them into our capital and earnings assessment, one of many considerations in our bank ratings methodology (see "Banks: Rating Methodology And Assumptions," published Nov. 9, 2011). Over the longer term, if the Durbin Amendment has a significant impact on the franchises of debit card issuers, we could consider incorporating this into our business position assessment, though we view significant business position shifts as remote possibilities. However, banks so far have absorbed much of the impact, and we do not expect it to be an ongoing concern.

The Outcomes Of Various Legal Actions Are Pending

Both groups that the Durbin Amendment directly affects--retail merchants and banks--are taking legal action in response to the regulation. On Nov. 22, 2011, the National Retail Federation, the National Association of Convenience, and the Food Marketing Institute filed a lawsuit against the Federal Reserve System, alleging that the debit interchange fee is too high and goes above and beyond the amendment's intent. The Fed initially considered setting the cap at about $0.12 but ultimately raised it to about $0.22. The retail trade groups argued that the Fed bowed to pressure from banks on this issue. On March 15, 2012, several financial industry trade groups intervened, claiming just the opposite--that the Fed had set the fee limit too low. These proceedings are ongoing, but the eventual legal outcomes could have a meaningful impact on the financial implications of the Durbin Amendment.

The Durbin Amendment Could Lead To Some Restructuring And Operational Changes In The Long Term

The Durbin Amendment has affected the financial industry in a number of ways, but perhaps not in the ways legislators intended. The benefits to consumers seem largely negligible as banks have sought other ways to generate revenue or cut services. U.S. bank earnings suffered an initial negative impact to revenue, but this is unlikely to remain a concern as the banks adapt their operations to the new regulations.

Primary Credit Analyst:John K Bartko, New York (1) 212-438-7368;
Secondary Contact:Rian M Pressman, CFA, New York (1) 212-438-2574;
Research Contributor:Brennan Keeter, New York (1) 212-438-7992;

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