OPINION: Community Banks Lead in Small-Business Credit Access: Proposed Legislation Puts That at Risk

By Rajesh P. Narayanan, Ph.D., Louisiana State University

The Credit Card Competition Act, sponsored by Senators Durbin and Marshall, aims to inject competition into credit card networks and lower costs for merchants and consumers. The legislation requires issuers with over $100 billion in assets to enable at least two unaffiliated payment networks and gives merchants control over transaction routing. Community banks are explicitly exempt from this threshold. Yet despite this exemption, community banks will be disproportionately affected because the legislation misunderstands how interchange fees function in two-sided payment markets and why network routing requirements cannot be confined to large banks alone.

The Economics of Interchange

Payment card networks operate as two-sided markets connecting merchants and cardholders. Interchange fees are set by the networks (Visa, Mastercard, Discover, and American Express), not by individual issuing banks. These fees allocate fraud liability, price credit risk, guarantee merchant payment regardless of cardholder default, and compensate issuers for operational infrastructure. These costs must be borne by someone in the payment system.

The critical question is who bears these costs. When interchange fees compensate issuing banks, merchants pay through per-transaction fees typically invisible to consumers. Merchants benefit from guaranteed payment, reduced cash-handling costs, faster settlement, and access to customers who prefer electronic payment.

In two-sided markets, interchange fees serve an additional function: they enable competition for cardholders. Large card issuers use interchange income to fund rewards programs and marketing expenses that attract cardholders. The more cardholders they attract, the more valuable their network becomes to merchants, generating more transaction volume and interchange revenue. This explains why the largest credit card banks spend 1 to 2 percent of their assets annually on marketing and customer acquisition, roughly ten times what traditional banks spend, with marketing budgets comparable to Nike and Coca-Cola. Interchange fees fund this competition for market share.

When the Credit Card Competition Act gives merchants control over transaction routing, merchants will route to the network offering the lowest interchange fee. Payment networks, competing for transaction volume, will reduce interchange rates. This affects all issuing banks, but disproportionately harms community banks. Large banks that invest heavily in marketing can offset declining interchange revenue through diversified income from investment banking, wealth management, and capital markets. Community banks depend on interchange revenue without these alternative income sources, making them unable to absorb the decline whether they receive a small share through agent bank arrangements or issue cards directly.

Why Exemptions Do Not Protect Community Banks

Community banks finance family-owned farms, small manufacturers, startups, and main-street businesses. These institutions appear protected by the bill's explicit exemption for banks under $100 billion in assets. History provides direct evidence of how such exemptions perform in practice. The 2010 Durbin Amendment on debit cards imposed a similar structure: it capped interchange fees only for banks over $10 billion in assets while explicitly exempting smaller banks. Despite this exemption, community banks suffered a 30 percent decline in interchange revenue due to how payment networks set rates and how routing requirements operate.

Payment networks maintain separate interchange fee schedules for exempt and covered issuers. However, routing requirements apply to all financial institutions regardless of asset size. The Durbin Amendment required all banks to enable at least two unaffiliated networks on debit cards and gave merchants routing control. The Credit Card Competition Act would impose identical requirements on credit cards.

When merchants gain routing control, they route transactions to whichever network offers the lowest interchange fee. Payment networks, competing for merchant routing volume, face pressure to lower their rates across all schedules, including rates for exempt small banks. The competitive dynamics created by merchant routing erode these rates in practice.

Why Community Banks Bear the Disproportionate Burden

The structure of credit card issuance compounds this vulnerability. Most community banks rely on agent bank arrangements where larger institutions issue cards on their behalf, and they receive only 4 to 7 percent of interchange revenue. When interchange rates decline, this small share falls proportionally. Community banks that issue cards directly receive full interchange revenue but must cover processing costs while competing against issuers with vastly larger marketing budgets. Either model leaves them exposed to declines they cannot offset.

Interchange income supports cross-subsidization that allows community banks to offer credit to borrowers who might otherwise be unprofitable. Small businesses, farms, and rural borrowers require relationship-based underwriting relying on local knowledge rather than standardized credit scoring. When interchange revenue declines, community banks must raise deposit fees, eliminate services, or tighten lending standards. Under capital requirements, reduced earnings directly constrain lending capacity.

The 2010 Durbin Amendment demonstrates this empirically. The fee cap applied only to banks over $10 billion, but the routing requirement applied universally. Banks shifted costs to depositors. Free checking fell from 60 percent to 20 percent. Monthly fees rose from $4.34 to $7.44. Meanwhile, 98 percent of merchants either raised prices or kept them the same. Merchants captured the savings rather than passing them to consumers.

Community banks provide 60 percent of all small-business loans and 80 percent of all farm loans nationwide. These dynamics matter especially in Louisiana, where community banks finance rural parishes and agricultural communities. When community banks lose interchange revenue, costs fall on depositors through higher fees and reduced services, and on borrowers through tighter credit. Congress should not repeat the policy mistake of 2010. Exemptions offer no protection when merchant routing control applies universally.