Credit cards, the reverse Robin Hood effect, and correcting it

People using cash actually pay more for the same goods and services than those who use credit cards to pay, concluded "Who Gains and Who Loses from Credit Card Payments? Theory and Calibrations," a new study by the Federal Reserve Bank of Boston. In addition, credit card rewards programs transfer money from people with lower income to those with higher income.

Jennifer Schultz, a blogger with The New York Times, called it a "Reverse Robin Hood Effect" of credit cards, taking from the poor to benefit the rich.

On an annual basis, cash-using households pay $151 "to card-using households, and each card-using household receives $1,482 from cash users every year," the bank concluded. Since people with higher incomes are more likely to be card holders, this otherwise unseen cash transfer benefits them more. Particularly if they carry a low or zero monthly balance on their credit cards.

The unseen cash transfer, according to the study, occurs partly because of the fees that merchants must pay credit card companies based on how much the card holder pays the seller. The merchant's bank then pays a "proportional interchange fee to the consumer's credit card bank," the study explained. Since most merchants agree to a no-surcharge clause with the credit card companies, they can't charge cardholders more. So that they don't lose money to the credit card companies, merchants raise the price of their goods for all customers to account for the fees they pay. In this way, the person paying with cash ends up subsidizing the person paying with the credit card.

Add to that the reward programs offered to card holders, and the effect is compounded. The report stated that because "credit card spending and rewards are positively correlated with household income," the method of payment also creates "a regressive transfer from low-income to high-income households in general." It added that households making $20,000 or less annually pay $23 because of rewards programs while households making $150,000 or more annually receive $756 every year from the programs.

The study concluded that reducing merchant fees and card rewards would likely increase overall consumer welfare.

-Chris Meehan