Long Road To Least-Cost Routing: RBA Publishes First Progress Report

March 29, 2023
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As promised, the Reserve Bank of Australia (RBA) has begun publishing reports on the availability of least-cost routing for in-person debit card payments, in an effort to help merchants reduce costs.

As promised, the Reserve Bank of Australia (RBA) has begun publishing reports on the availability of least-cost routing (LCR) for in-person debit card payments, in an effort to help merchants reduce costs.

In its first report on the issue, the RBA said that LCR availability has made “good progress” among acquirers, but take-up among merchants remains “disappointingly low”.

By the end of last year, LCR for in-person debit card payments was “available” to 90 percent of merchants across major acquirers, although only 53 percent of those merchants had enabled the functionality.

In other words, although LCR is now offered almost universally by acquirers, only half of merchants that could benefit from it are using it.

Least-Cost Routing For In-Person Debit Card Transactions
(Percent of merchants, as of December 2022)

AcquirerAvailable to merchantsEnabled for merchantsSquare100100Suncorp Bank10058Tyro10056Westpac10030Fiserv10027Adyen10017ANZ Worldline9823Commonwealth Bank8942National Australia Bank5514Total9053

Source: RBA

The report notes that “very large” or “strategic” merchants, and merchants that supply their own payment terminals, are excluded from the figures.

This is because, due to their higher sales revenues, strategic merchants are more likely to negotiate favourable interchange rates and those rates may be lost if using LCR.

As the RBA has said previously: “The benefits of LCR for very large (strategic) merchants on interchange plus (plus) plans is not always clear.”

Nonetheless, the RBA’s report gives us a snapshot of the teething issues that the rollout of LCR for in-person debit card payments is currently facing.

Where there are gaps in availability, the RBA said this is mainly due to acquirers needing to upgrade old terminals.

These acquirers have given assurances that upgrades will be completed over the next year, and the RBA said it will continue to publish LCR progress reports every six months to hold them to account.

LCR gives merchants the option to route to debit card transactions via eftpos, Australia’s low-cost domestic scheme, as opposed to using Visa or Mastercard.

Ellis Connolly, head of payments policy at the RBA, said the first report highlights that some providers have been more successful than others in moving their merchants across to plans with LCR.

“Providers that have yet to enable LCR for all their merchants should proactively encourage them to take it up, since it makes our payments system more competitive and puts downward pressure on merchants’ payment costs,” he said.

According to the RBA’s original timeline, acquirers were expected to have launched LCR for online transactions by the end of 2022, but this target has since been extended to June this year.

“While a lot of work is underway, the industry has not met this timeline, which is disappointing,” said Connolly.

“In the interest of transparency, we intend to include a table on LCR for online transactions in the next report, so merchants can know which providers are actively supporting lower payment costs.”

LCR for mobile wallet transactions, described by Connolly as the “final frontier”, is expected to be introduced by the end of 2024.

LCR still a work in progress

In October 2021, following a Review of Retail Payments Regulation, the RBA adopted new policy measures to promote LCR and dual-network debit card issuance.

This was when the RBA first introduced its “expectation” that all acquirers and payment facilitators that provide card acceptance services should “offer” and “promote” LCR to their merchants.

However, beyond this expectation, little pressure was applied to acquirers by the RBA to ensure buy-in.

Zennon Kapron, founder and director at payments consultancy Kapron Asia, said that in the absence of that pressure, acquirers have little incentive to hurry their merchants over to LCR.

“If you're an acquirer and you're not being forced to make the change, then why would you?” he said.

Kapron pointed out that acquirers are able to extract significantly more revenue for themselves when routing transactions via Visa or Mastercard, so asking them to direct merchants towards LCR is counter-intuitive.

At present, acquirers typically charge merchants about 20 basis points more to route debit card transactions via Visa or Mastercard, so they have vested interest in keeping their merchants away from LCR.

From the merchants’ perspective, Kapron suggested that the potential cost savings may be unclear, if they are recognised at all.

“For the merchants, they know that switching hardware is going to be painful, and is it really worth it for them in the aggregate,” he said.

“Of course, millions of dollars are potentially being lost to this, but many of them may not know that.”

Associations such as the Merchant Advisory have highlighted the difficulty that merchants face when attempting to quantify their potential cost savings when using LCR.

As the Merchant Advisory has written to its members: “Savings will depend on your card mix, transaction volume, transaction size, industry, and pricing plan.”

For example, for some merchants, it might make sense to use LCR for transactions that are above a certain value threshold but not when below.

To take an example from National Australia Bank (NAB), a coffee shop owner whose average transaction value is under A$10 would (on average) benefit more from avoiding LCR and using only Visa and Mastercard.

In contrast, a clothing retailer whose average transaction value is more than A$50 would (on average) benefit more from using LCR.

For that reason, banks like NAB now offer merchants the option to enable LCR with a predetermined limit, so that lower-value transactions are processed via Visa or Mastercard and higher-value transactions are processed by eftpos.

Using this option means that merchants do not need to manually choose to activate LCR when accepting a payment.

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