The Australian Debit Card Market: Default Settings and Tokenisation – Conclusions Paper
September 2023 2. Setting a Default Network on Dual-network Debit Cards

Issues

The default routing of contactless DNDC transactions to the international debit networks, particularly due to ‘first-priority’ settings on card chips, has been of concern to the Bank for a number of years. Unless merchants can choose their preferred network for contactless transactions, this practice:

• can put upward pressure on merchants’ debit card payment costs – for many merchants, payments via the international debit networks are significantly more expensive, on average, than payments via the eftpos network
• reduces competitive tension between the debit schemes, which reduces the incentive for the international schemes to lower their fees.^[2]

The Bank has sought to address the competition and efficiency concerns relating to the default routing of debit transactions through its promotion of LCR. LCR functionality allows merchants (or their provider) to choose which debit network will process DNDC transactions, overriding any default setting. The Issues Paper noted that while LCR could be sufficient to address the Bank’s concerns about default settings, it may not achieve the Bank’s policy objectives in a timely manner due to delays in its implementation and barriers to merchant take-up. Data collected by the Bank show that since the Bank began advocating for LCR in 2017, LCR for in-person transactions has only been enabled for a little more than half of all merchants.

Policy options presented in the Issues Paper

The Issues Paper noted that while the Bank remains committed to the implementation of LCR, it had decided to explore additional regulatory options that could address the concerns raised by priority settings on DNDCs and improve competition and efficiency in the debit card market. The Bank noted that it was exploring the feasibility, and the associated costs and benefits, of preventing any one debit network from being given routing priority at issuance for domestic transactions. In effect, this would mandate that merchants be provided with at least a basic form of LCR, where the merchant chooses the routing network. In the Issues Paper the Bank sought feedback from stakeholders on whether there would be any technical or practical challenges to prohibiting the setting of a priority network, the benefits and costs of such a prohibition, and suggestions on alternative courses of action that could better address the Bank’s concerns.

Stakeholder views

Stakeholders provided consistent feedback that it was technically feasible to remove priority network settings on DNDCs. Some stakeholders agreed that removing priority settings would enhance competition and put downward pressure on merchant costs. However, most stakeholders believed that the policy would not provide any additional benefit beyond the current LCR initiatives and would add significant costs and risks to the payment system. A number of stakeholders highlighted the following:

• The removal of priority settings alone would be practically ineffectual. Under the EMVCo standards, if there was no priority network set at issuance, and merchant choice had not been programmed into the terminal, the transaction would be routed by default to the network whose application was listed first.^[3] This would likely be the international network to ensure cards still work when used overseas. Accordingly, the status quo would likely be preserved.
  
  In addition, stakeholders indicated that taking action to remove priority settings on the card chip would not affect the default settings for mobile wallet transactions, which account for a rapidly growing share of card payments. Consequently, any action to prohibit priority network settings for contactless (card-present) transactions is likely to have diminishing benefits over the next few years, and would not prevent the setting of a default network in new form factors.
• Departing from global EMVCo standards would risk failed transactions and possibly unintended consequences. The Bank could require a departure from EMVCo standards so that both networks on a DNDC truly had equal priority. However, feedback suggested that where merchant choice has not been programmed into the terminal – whether due to legacy terminals or other issues – the contactless transaction would fail or the cardholder would be required to enter their choice of network into the terminal, adding friction to the checkout process. The risk of failed transactions would be particularly high for overseas transactions. This would be disruptive for consumers, merchants and schemes. Some stakeholders also argued that deviating from EMVCo standards might result in other costly unintended consequences in the future, such as the delayed introduction of payments innovations into Australia.
• Prohibiting a priority network would be costly as it would require all DNDCs to be reissued with new EMV chips without a priority network selected. If the change were to be implemented as soon as possible, the cost to industry would be significant. Alternatively, if left to natural card reissuance cycles to reduce these costs, the implementation could take three years or more. On the acquiring side, stakeholders argued that it would require engagement with a large number of merchants to elicit and implement their routing choice potentially in a short period of time, which would involve significant effort. There would still be some residual risk of failed transactions for certain types of transactions and those made at legacy terminals.
• Pursuing existing LCR initiatives was preferred to removing priority settings. Taking into account the points above, the majority of stakeholders expressed a strong preference for the Bank to continue pursuing LCR initiatives to achieve its policy objectives rather than require the removal of priority settings.

The Board’s assessment and conclusions

Stakeholder feedback indicated that prohibiting the setting of a default network on card chips would either be practically ineffectual or would risk failed transactions and additional frictions/poor customer experiences, and would either result in large costs for issuers or a lengthy implementation period. Further, such a prohibition would have diminishing benefits over the next few years given the rapid growth in mobile wallet transactions and would not prevent the setting of a default network in new form factors.^[4] Accordingly, the Board judged that the benefits of such an action are unlikely to outweigh the costs and risks involved. The Board therefore decided that it will not continue to explore prohibiting the setting of a default routing network on DNDCs.

The Board, however, remains strongly supportive of merchants having the ability to choose their preferred debit card network through LCR. The majority of stakeholders supported the Bank continuing to pursue LCR initiatives to achieve its policy objectives. While LCR is now widely available to merchants for in-person transactions from a technical perspective, the functionality has only been enabled for 54 per cent of merchants as at the end of June 2023; this share has increased marginally over the past year. The Board expects providers to make faster progress on enabling LCR for merchants that could benefit from it. Going forward, the Board also expects the industry to implement new form factors in a way that is compatible with LCR from the outset.

Over coming months, the Bank will continue to actively engage with merchants’ providers and gather more detailed information to understand providers’ progress in enabling LCR. The focus of this effort will be to clarify the reasons why some merchants have not had LCR enabled and any barriers providers face in enabling LCR. If providers do not make substantial progress in enabling LCR for merchants by June 2024, the Bank will explore imposing a formal regulatory requirement on providers to enable LCR for their merchants.