Apple Pay sides with credit card industry over consumer interests

Apple (AAPL) has regularly delighted its customers with cool products on its way to becoming the most valuable company in the United States. But it hasn’t always stood up for its customers’ best economic interests.

Take the case of Apple Pay. Apple partnered with the three major credit card networks, Visa (V), Mastercard (MA) and American Express (AXP) and the big bank card issuers such as JP Morgan Chase (JPM). That is likely a smart move from a business perspective, because so many Apple customers are frequent credit card users and prior mobile payment services have had trouble gaining much traction.

But the partnership decision also meant Apple was taking sides in a long running war between the credit card industry on one side and retailers and consumer advocates on the other.

Retailers typically pay 2% or more on every credit card purchase, costs that cut into their margins and raise prices for all shoppers. In search of lower fees, they’ve sued the credit card companies multiple times, lobbied for new laws and created competing payment products. One of those competing products, still under development, is a mobile wallet app called CurrentC.

CurrentC, backed by major retailers including Walmart (WMT) and Target (TGT), is designed to promote payment methods other than credit cards, such as debit cards, store-issued cards and direct withdrawals from checking accounts. Retailers pay little or no fee on those kinds of transactions, allowing them to lower prices or offer more loyalty rewards and discounts.

To be sure, CurrentC appears to be nowhere near as polished and easy to use as Apple Pay. The app relies on bar codes instead of wireless signals, a slower and less reliable method. It also doesn't have the iPhone's fingerprint-based security lock. But it does work on almost any smartphone, not just the newest iPhones, currently the only devices capable of paying via Apple Pay. Both technologies will substantially improve the security of payments by ending the transfer of full credit card numbers across retailers' point of sale terminals.

Retailers needed Apple

The Merchant Customer Exchange, the retailer group behind CurrentC, hasn’t done itself any favors in the publicity department. Members CVS (CVS) and Rite Aid (RAD) angered Apple fans by initially accepting Apple Pay and then deciding to block it, possibly due to the group’s exclusivity rules. On Wednesday, the group disclosed that hackers had stolen the email addresses – but not other information – of people participating in the CurrentC pilot test.

But all of CurrentC’s problems demonstrate just how much retailers needed Apple’s technology expertise. Instead, Apple’s snazzy new service will strengthen the hand of the big credit card players to resist calls for lower fees.

And it’s not that case that retailers can’t innovate around payments to the benefit of customers. Target’s popular RED Card cut out credit card fees for the retailer, while paying customers a 5% rebate. CVS has 50 million members in its ExtraCare rewards program, who receive 2% back plus other discounts. About one in six purchases at Starbucks (SBUX) uses the company's barcode-based, mobile app to rack up future rewards.

This isn’t the first time Apple’s business interests have conflicted with the economic interests of its customers. Apple was found guilty of helping big publishers collude in 2010 to hike the price of ebook best sellers by 30% to 50%. Apple maintains it did nothing wrong and said it couldn’t open its own ebook store unless prices rose.

And 2011 rules still in force require iOS app developers to pay Apple a 30% cut of in-app purchases making sales of many digital media products all but impossible. Consumers can’t, for example, buy ebooks in Amazon’s Kindle app or purchase a music subscription in the Spotify app — they have to go to the seller’s web site to initiate a purchase.

Apple didn’t respond to a request for comment. CEO Tim Cook said this week that iPhone owners added 1 million credit cads to Apple Pay in the first 72 hours. "Merchants have different objectives sometimes," Cook said during an interview at the Wall Street Journal Digital Live conference. "But in the long arc of time, you only are relevant as a retailer or merchant if your customers love you."

The Apple Pay situation has already created some odd consumer choices. Some Apple customers urge boycotting CVS in favor of Walgreen (WAG), a chain that is accepting Apple Pay.

IDC analyst James Wester noted the irony.

Walgreen has recently been the subject of protests for considering moving its headquarters overseas to cut its tax bill (it later decided not to), he pointed out. In 2008, the chain paid $28 million to settle a lawsuit for discriminating against African-American employees. This year, Walgreen had to pay $180,000 to settle a discrimination complaint after it fired a diabetic worker with 18 years on the job for eating a bag of potato chips during a hypoglycemic attack without paying $1.39 first.

CVS has been the subject of some ridicule for its lengthy, coupon-laden receipts, but also chose to forgo billions of dollars in annual revenue by ending cigarette sales.

Apple fans have also raised privacy concerns about retailer payment schemes like CurrentC, while failing to realize that credit cards are among the largest sellers of personal data. Apple Pay blocks retailers from collecting customer data but doesn’t stop credit cards from doing what they’ve always done, and selling  information to data brokers, back to retailers, and even to health insurers. CVS, by contrast, doesn’t sell personal data from its rewards card users to third parties.

So far, it looks like Apple Pay will catch on quickly while CurrentC is still struggling to get started. For consumers, that might not be the best outcome.

Updated, October 30, 2014

This article generated a fair bit of discussion, including a thoughtful post from longtime Apple watcher John Gruber, so I wanted to clarify a couple of points.

1. One of my underlying assumptions is that credit card interchange fees are excessive and hurt consumers through higher prices in stores. There have been multiple court cases that found Visa and Mastercard abused their dominant position to impose excessive fees. Retailers are limited in their ability to fight back by laws limiting surcharges and discounts. A wide range of consumer groups have complained about fees and urged lawmakers to step in. They have done so only in small ways so far. Another way to address the problem is by increasing retailers' leverage with a popular alternative.

The $40 billion a year of fees is almost 10 times the amount of losses due to fraud experienced by banks and retailers, and banks profit from credit cards in many other ways that are transparent to consumers, including annual fees and interest on balances. While some savvy people can benefit by spending a lot on their cards to rack up rewards points and then paying off the balance every month, rewards cards require retailers to charge even higher fees. On the whole, it’s a net negative for consumers.

2. Apple did have choices. I would describe the current Apple Pay strategy as prudent, low risk and, at least for right now, pretty low reward. Apple is getting only 0.15% of each transaction, which comes out of the bank’s share of the 2% and up of interchange fees.

For the past few years, many people have discussed how Apple could truly disrupt the payments systems with an iPhone-based offering an capture a much larger portion of fees. Analysts at Credit Suisse have found that Apple tops the list of potential payments system disruptors in the view of investors and other financial market players. That may yet be Apple’s plan in the future.

3. I am in no way saying that CurrentC is better than Apple Pay. In fact, I said that CurrentC shows just how much retailers need Apple’s help.