processing equipment and software, in addition, we recommend that costs of transaction monitoring be included as an allowable cost because these activities are integral to the authorization decision. we further recommend that a portion of fraud losses be incorporated as an allowable cost because issuers they incur losses for fraud they cannot prevent. allowing a portion of fraud losses recovered is not eliminate the incentive to monitor and prevent fraud. because the cost of fraud losses varies with the amount of the transaction, we believe that fraud losses are best incorporated through a component in the interchange fee standards. turning to the implementation approaches, numerous issuers, trade groups, networks and individuals objected to the fee limits embodied in the cap under both alternatives and the safe harbor. however, many of these commenters recognized the app l

appealed and acknowledged a pure specific standard would be difficult to implement and enforce. although many issuers argued against both alternatives, a significant number preferred alternative two, the standalone over alternative one, the framework with the safe harbor in a cap due to the second alternative's ease of come ploins. however, many of these commenters suggested raising the cap value for expanded definition and to cover the costs of a larger percentage of covered issuers. merchants uniformly supported alternative 1 as being the most consistent with the statute. merchant commenters generally preferred a more issuer specific approach because issuers would receive interchange fees tied to actual respective costs, aulg though some of these commenters acknowledged that a cap or a safe harbor would make the interchange fee structure simpler for merchants to understand which could increase

transparency. however, they advocated a lower safe harbor value arguing that a higher safe harbor would allow a large fraction of issuers to receive interchange fees above their actual allowable costs. similarly, merchants generally supported a lower cap to discourage issuers from incuring and compensated for excessively high costs. we believe that the best reading of the statute's reference to an issuer and a transaction is to interpret those terms to refer to a representative issuer and a representative transaction rather than a specific issuer and a specific transaction. a approach based on a more specific reading of those terms would be virtually impossible as an issuer costs for each specific transaction which may vary cannot be ascertained at or time the issuer received the interchange fee. therefore, with respect to the implementation approach, we recommend that the final rule adopt a modified version of the

proposed rule, that is, apliblgible to all covered issuers. under the final rule, the maximum permissible interchange fee would be the sum of a base component. we recommend that the base component set at 21 cents, which corresponds to the 80th percentile issuers average transaction allowable costs as reported in the board survey of covered issuers. we further recommend that the component set at five basis points of the transaction value, ri flekting the median issuer's fraud losses as reported in the same sur vafr. each covered issuer permitted to receive an interchange fee that did not exceed the sum of two components without demonstrating the actual per transaction allowable costs. with respect to the statute's requirement that an interchange fee be reasonable and to portional to the cost of the issuer, we believe that the cap

delineates a separation of a fee that's reasonable and not reasonable. moreover, because it's based on certain costs for affecting particular electronic debit transactions, the standard ensures that sfees are proportional to those costs as required by the statute. these interchange fee standards would be effective on october 1st, 2011. the final rule also contains provisions that prohibit sir couple vengs or avags of the standards. the statute authorizes the board to allow for adjustment to an interchange fee to account for an issuer's costs in preventing fraud from vided complying with standards established by the board related to fraud prevention activities. the proposed rule did not include a specific adjustment to the amount of interchange fees for an issuer's fraud prevention costs. instead, the proposal requested about comment of two broad approaches to designing standards. the first focused on general

fraud prevention activities and costs. the second focused on recouping costs of new or substantial improved fraud prevention technologies. although commenters did not uniformly favor either proposal, they generally agreed that the board should not mandate use of specific technologies, merchant commenters favored a requirement that an issuer adopt technologies that would decrease fraud to be eligible for the adjustment. in contrast, issuers and payment card networks preferred a nonprescriptive approach to allow issuers the flexibility necessary to tailor their fraud prevention activities to address most effectively the risk faced by the issuer associated with changing fraud patterns. we believe that the dynamic nature of the debit card fraud environment requires standards that permit issuers to determine the best methods to mitigate

fraud losses for the size and scope of their program and in response to frequent changes in fraud patterns. as a result, we recommend that the board issue an interim final rule with a request for comment that basis eligibility for the fraud prevention adjustment on general standards for an effective fraud prevention program rather than prescribing specific measures or technologies. the general standards require an issuer to establish policies and procedures, reasonably designed to maintain an effective fraud prevention program. as in the case of the interchange fee standards we considered a variety of approaches for implementing the fraud prevention adjustment. we recognized that both issuers and merchants make substantial investments in fraud prevention and the statute does not require the board to set an adjustment so that each issuer fully recovers the costs. as a result, we recommend that the fraud prevention adjustment be implemented through an

addition through the cap applicable to all covered issuers. based on information about fraud prevention costs gathered through the board's survey of covered debit card issuers we recommend that the board permit a fraud prevention adjustment of no more than one cent per transaction which is based on the median issuer's fraud preconvenience costs as reported in the survey, less the cost of transaction monitoring included as an allowable cost in determining the interchange fee standard. when combined to the maximum interchange fee under the standard, a covered issuer eligible for the fraud prevention adjustment could receive an interchange fee up to approximately 24 cents for the average transaction. a suggested by virtually all commenter it is fraud prevention adjustment effective on october 1st, 2011. we may recommend that the board make revisions to the adjustment as appropriate at a later date after we consider the comments

received. in addition to rules related to interchange fees the statute requires the board to prescribe rules related to the routing of transactions. first, the board must adopt rule that is prohibit issue herbs and payment card networks from restricting the number of networks on which a debit card transaction may be processed to fewer than two unaffiliated networks. second, the board must adopt rule that is prohibit issuers and networks from restricting the ability of merchants to route debit card transactions over any network that may process such transactions. these provisions apply to all issuers including small issuers and certain prepaid card programs that are exempt from the interchange fee restrictions. the proposed rule included two alternatives for implementing the prohibition on network exclusively arrangements. alternative "a" requires a debit card transaction routed over at least two unaffiliated networks irrespective of the

authentication of the authentication methods on the card. alternative "b" would require two affiliated networks for each authentication available to the card holder. under either alternative, issuers would be prohibited from restricting merchant routi inin choice among the networks enabled on a card. issuers in payment card networks universally preferred alternative "a." it would impose less severe operational burdens and would not have as large a negative effect on the development of new authentication methods. merchants preferred alternative "b", which they believed would provide the broadest routing choice. such as many online transactions. merchants also believed this alternative would not require substantial operational changes for issuers and networks.

we recommend the final rule adopt alternative "a." the recommended final rule requires two unaffiliated networks to be enabled on each debit card without regard to authentication method. under the final rule, an issuer could comply by having one signature network and one affiliated pin network, or alternatively two unaffiliated pin networks or two unaffiliated signature networks enabled on a card. we believe this approach is consistent the statute, which prohibits issuers of payment card networks from restricting the number of payment card networks on which a debit card transaction may be processed to fewer than two unaffiliated network. moreover, the statute does not require two payment card networks available to the merchant for each method of authentication. we further believe this approach would minimize the compliance burden on institutions, particularly small issuers,

would present less authentication methods. the statute does not establish an effective date for the exclusivity and routing provisions. under the final rule t prohibition would be effective april 1st, 2012 with respect to issuers and october 1st, 2011 with respect to payment card networks. the final rule includes a delayed effective date for certain prepaid cards that may face technological or operational difficulties with complying by april 1st, 2012. the effective date on routing restrictions would be october 1st, 2011. the earlier effective date will enable merchants to take advantage of enhance erouting flexibility. my colleagues and i would be happy to answer any questions you have.

>> thank you very much. thanks to the staff again for a tremendous amount of work on this very challenging rule. we've been talking about issuers and merchants and networks. the ultimate beneficiary, we hope, is the consumer. how do you think this rule will affect consumers? >> i'll answer that question. it's very hard to predict the effect that the rule will have on consumers because the effect is going to depend on the actions taken by various participants in the payment -- in the debit card system. on the one hand, card issuers are likely to implement changes in response to introduction interchange fee.

although the staff thinks it's unlikely that issuers would actually impose fees on debit card transactions, per se, or engage in other activities that are designed to steer their customers away from using debit cards, we would expect that at least some cards issuers would change some terms facing their account customers, such as reducing or eliminating rewards associated with debit cards, perhaps imposing certain fees on deposit customers more generally or reducing benefits on deposit customers more generally. at the same time, it's likely to reach consumers in the form of lower prices. the extent to which the savings do get passed on will depend on

the competitiveness of the markets in which the merchants operate. merchants who operate in highly competitive markets with low margins are likely to pass on substantially all the savings to their customers. merchants in less competitive markets may keep a larger portion for themselves. if they continue their current practice of not varying prices with payment method, any savings that do get passed on will be shared by all consumers, regardless if they pay with debit cards or other forms of payment. see the effect on any individual consumer will depend on their p behavior. do they use debit cards or not? on the competitiveness of the merchants with whom they do business, on any changes in merchant acceptance of various payment card methods and on the bank's reactions in terms of how they adjust any account terms.

so it's hard to predict how any individual consumer will be affected and in aggregate, how all consumers will be affected. we can't say in advance how those are going to play out. >> thanks. >> one of the differences -- one of the most important differences between this rule and the preliminary rule is the expanded set of costs that you are allowing in calculating interchange fees. can you talk about how you decided which costs would be included? maybe what the legal reading is that supports that. >> let me fry to answer that one. we first focused on a statute that prohibits the board from considering. those were costs not specific to a particular debit transa. as mark alluded to in his presentation, that would include corporate overhead, audit, billing department, hr department, those kinds of

costs. what the board is allowed to consider are the costs that are specific to particular debit card transactions. those would include the costs the board proposed to permit as allowable costs. the authorization clearance and settlement, which the statute in fact requires the board to consider. but then a range of other costs that are also specific to particular transactions. and we considered those, and we looked at the data we had on those. some are included in the final rule and some are not. for example, fixed costs of software, hardware, that goes towards affecting a particular transaction. those are included in the proposed fee standard. other costs such as rewards, customer inquiries, arguably they are particular to specific transactions, but for the reasons we laid out in the

federal registry notice, those were not included in the interchange fee standard. >> okay. thank you. >> thank you, mr. chairman. mark noted in his presentation that the proposed interchange fees standard has to meet the statutory requirement that the interchange fee be reasonable and proportional to an issuer's kogs. i noted in looking through the public comments that a number of commenters indicated that in rankings for public utilitieuti the interpretation that would typically be given to the term reasonable would include some markup to allow for a fair rate of return.

>> so getting back to the costs that the board is prohinted the from considering >> sts not specific to a particular transaction. a rate of return overall on your debit card program is difficult to attribute to a particular transaction. i would also say many of the rate making cases use a term just in reasonable rates. we have a different term here. reasonable and proportional to cost. congress wanted us to rely on this. they could have used that term. they did not. we were interpreting it differently. >> thank you very much. >> one other question is i

wonder if you talk a little bit about what impact you think this rule is likely to have on innovation in the payment system more broadly. i noted some commenters were concerned that this is a rule that could inhibit innovation. i wonder what your perspectives are. >> so we did receive a lot of comments to express concern about the potential effect of the rule on innovation. the commenters would note the effect and development of authentication methods. like new form factors, like mobile payments. or new fraud prevention technologies. there were commenters that expressed concern of inhibiting the development of new technologies. there were also commenters, however, who wanted the rule to be applied evenly across new as well as existing technologies in order to create a level playing

field, so as not to advantage one type of technology over another. we also recognize the importance of establishing basic ground rules that create a level playing field across different types of technologies. so the final role does not generally exempt innovative technologies for the provisions of the rule. we think that this does establish the level playing field that some of the commenters were looking for. and also creates regulatory certainty for potential innovators going forward. at the same time we recognize that certain aspects of the rule could have an effect on innovation. that is going to impact the way in which they develop those technologies. but there are certain features of the recommended final rule

that should have a mitigating effect on the negative effects of innovation. in the exclusivity portion of the rule, we are fot requiring multiple networks associated with each authentication method. this should help an innovator not have to open the technology to other parties. we are not using a technology specific standards. there will not be dictates about technologies are or are not acceptable. the market can develop the technologies that are most effective. ultimately there will be an effect on innovations as the innovators have to meet the restrictions associated with the rule. certain aspects of the rule should mitigate some of the effects. >> thank you. governor duke? >> thank you, mr. chairman. following up on the chairman's questions about impact on

consumers. other countries have implemented restrictions on interchange fees. could you talk about the experience they've seen respective to account holder fees, savings passed on by retailers, changes in discounts for different methods of payment? >> sure. there are two types of scenarios one could look at when looking at other counteds. one would be places where there's a government intervention to lower interchange fees. the second would be countries with a payment card system with low ore zero interchange fees. it can be hard to draw conclusions about the affect of interchange fees on the outcome for consumers, banks and payment card networks. there are a lot of moving parts. there are a couple of general conclusions one can draw by looking at case studies in other countries. in response to change and interchange fees due to government intervention, there

are often changes in account terms for card holders. for example, in australia when the reserve bank of australia lowered credit card interchange fees in their particular case, rewards for many cards went away. certain account fees were less attractive to the consumers. so a first lesson would be that there is generally some adjustment in terms of the account terms for card holders. but at the same time, the evidence doesn't suggest that having a high interchange fee is necessary for the debit card or payment card system to function effectively. in australia when they cut the credit card interchange fees, banks continued to offer the kr credit cards and consumers continued to use them. in canada where there is no interchange fee on pin debit transactions, pin debit remains an important part of the deposit relationship between banks and consumers.

we will expect some adjustment in terms of the fees, but we wouldn't expect to see a cig capital contraction in the supply of or demand for debit card services based on evidence in other countries. in terms of the effect of the interchange fee regulation and other countries on prices, that can manifest itself in two ways. first is in terms of the merchant discounts that merchants receive or pay. i'm sorry. and i think there is evidence that many of the decreases in interchange fees are passed through in merchant prices. in merchant discounts. the evidence for consumer prices is much weaker. there are so many factors buffeting consumers prices that there's not been strong evidence documenting that any decreases in interchange fees and subsequent decreases in merchant discounts are passed through in terms of lower consumer prices at the point of sale.

if you were trying to determine what the impact would be on the consumer here, are there any authorities you would need to collect data that you don't have today? >> well, we currently under the statute have authority to require payment card networks and issuers to provide us information, particularly information helpful for us in establishing the interchange fee standards. it doesn't explicitly give us the authority to require that merchants, for example, give us information or other parties, but we can have surveys that they can voluntarily comply with in terms of providing us that information. >> thank you, mr. chairman. >> governor? >> no questions, thank you. >> governor? >> yes, thank you, mr. chairman. looking at how issuers cost accounting systems capture cost

data i'm wondering if there's any external sources of cost estimates that were used in craft i crafting the regulation to serve as a way to cross check what the staff saw that came from the surveys put out by the fed. >> we didn't explicitly use the e ternl cost data. we used the data we gathered through our survey. having said that, we did look at various external cost studies associated with issuer costs. there are various problems, including the cost accounting systems can differ allot across firms. and in addition, whether or not a firm outsources things to a third party may affect their ability to identify certain types of cost components. and finally we recognized as we were performing the incentive

effects associated with reporting for respondants enganged in the exercise we were looking at. but when we did look at the external studies, performed by consultants and processors and payment card networks, the numbers they got were largely comparable to what we received from our su va. there are caveats associated with that in they didn't survey the same issuers we surveyed. the level of granularity, we don't know how well that compares. at least it's sort of an aggregate level. their estimates are largely comparable to what we got. which makes us think our numbers are not radically off or the surveys are not radically misreported in our formulation. >> thank you. >> okay. thank you. at this point i would like to

hear positions. let me start with you, vice chair. >> thank you, mr. chairman. i supported the option of the proposed final rule on debit card interchange fees and routing. i want to commend and thank the staff for the pain staking effort they've invested in preparing this final rule. importantly staff carefully analyzed over 11,000 comments that were received, and these comments raised appropriate issues relative to the implementation of the durbin amendment. they were extremely helpful in guiding the revision process and in particular, as mark mentioned, significant changes have been incorporate d in the final rule in response to the comments we received. in crafting the final rule, staff assessed the legal

requirements governing rule making under section 1075 of dot frank. and to the extent possible also considered the likely economic impact to result from alternative implementation choices. the final rule carefully adheres to congress' mandates relating to network exclusivity and routing, and to its direction, to establish standards for assessing whether the amount of any interchange transaction fee that an issuer may receive or charge with respect to an electronic debit card transaction is reasonable and proportional to the cost incured by the issuer with respect to the transaction. the final rule strives to ensure that issuers retain incentives to reduce operating and fraud costs over time. and it aims to avoid consequences that could be

dilitarious. a long-term goal of the federal reserve is to facilitate a transition from a payment system reline on paper check and cash to more efficient and convenient electronics based technologies. debit cards have helped speed that transition. staff have recognized the importance of establishing an environment that will be conducive to continued innovation in the payment system in the years ahead, one receptive to the adoption of promising new technologies. they further sought to establish a standard that will be transparent and reduce the burden on supervision. the legislation directing this rule making was motivated in part by the fact that interchange fees in the united states have increased substantially over time. where as in those countries

where interchange fees have historically been low or have been limited by government intervention, the use of debit cards has remained robust this escalation may well reflect a market failure. economic theorys suggest, however that the determination of prices in two sided markets like the debit card network are complex, regarding important network and usage extern externalalities. the literature recognizes that networks will valuable because they can serve to reduce transactions cost, and the pricing and strategy on such two-sided platforms will be influenced by the network effects. our notice provides economic analysis pertaining to the cost

and benefits of the proposed rule for the key affected groups. merchants, large and small financial institutions, and banked and unbanked consumers. the ultimate welfare effects are impossible to ascertain in advance. the impact of the rule will depend on the behaifrl responses of all parties. how they respond to the reduction in revenue from lost interchange fees and their pricing and product offerings. how consumers respond in their choice of payment methods. whether merchants pass through to consumers any interchange fee cost reductions and how market participants more generally respond to the interchange fee network exclusivity and routing provisions, which could affect pricing and competition throughout the broader retail

payments market. these responses cannot be easily predicted based on existing information. because this will affect the livelihood on consumers, businesses and financial institutions large and small, as well as the evolution of the payment system, it will be important for all of those interested in sound public policy to study and carefully assess the impact of this rule on the well being of the affected groups and the fishtdsy and dynamics of the payment system in the years ahead. >> thank you. governor duke? >> thank you, mr. chairman. i want to start by acknowledging the quality and quantity of work that's gone into this proposal. in the initial proposal and the final the staff demonstrated the comprehensive understanding of the structure and economics of debit interchange.

the individual members of the team brought their own experience, knowledge, insight, creativity and perhaps most importantly patience. this has not been an easy law to implement. i believe every effort has been made to choose carefully from among the schemes possible under this statute. issuers, networks, merchants consumers and other members of congress comments forcefully and passionately. the comments received were often in opposition to one another. as i read through each section, i concluded the final decisions reflect thoughtful attention to the positioned argued by all sides. i would like to comment on the sections on standards, network exclusivity, exemptions and the anticipated effects of the rules on various parties. with respect to standards, we first had to address which costs should be included or excluded in determining whether the

interchange fee was reasonable and proportionate to costs. within the costs determined to be relevant many establishing the cap we had to determine where to draw the line. i believe the cost included is reasonable. further i believe the decision to follow alternative the establishment of a cap is the best approach. i think that it is permtded by the statute and that the advantage of simplicity in transparency will lead to more effective implementation. this creates an incentive to reduce costs as the amount is recalibrated with updated information. i believe the choice of alternative "a", the requirement that cards be enabled with two unaffiliated networks without regard to authentication method

is the correct option. it meets the requirements of the statute in a way less complicated and costly to implement than vk two networks. it also accomplishes changing the dynamic network for payment networks by allowing merchants to choose the lowest cost routing available. and it would not require pioneers to wait for a second competing network to become available. when i think about except issuers that i run into problems. the statute stops three administrato administrators. reloaded general purpose prepaid cards not marketed as zbift cards. we received numerous comments expressing concern that the kemgs would not be effective in practice. i agree with this concern. indeed when i ask about the

exemption at the previous board meeting, the staff acknowledged there was no way to no for it would be effective. the staff pointed out then and in the final rule that the statute will permit but not do require the networks to establish higher interchange fees for exempt issuers than for covered issuers. we have way way to know if or how this will work. we have no authority to enforce such a structure. i applaud the decision to provide networks with lists of exempt small issuers in an effort to save them the administrative costs. the other method seems just as likely to work to reduce the incentives as to create such an incentive. we plan to survey issuers and networks and publish a list of fees. this could enable exempt issuers

to find the network with the most favorable rates. it could just as easily leave merchants and acquirers to route away from the networks. if you define it as the cost or loss of revenue resulting from regulatory action. small issuers may be held to an interchange fee targeted to be reasonable and proportional to costs incured by larger institutions, but because they were exempt, the cost incured by smaller institutions were not shown. i believe it was a desire not to impose the burden on them. the exception may not work for government administered program or prepaid cards.

i do recognize that small institutions can offstet the costs by charging higher customer fees for debit cards checking accounts or other services. debit cards are not a stand alone service but rather one of many methods of accessing a checking account. prepaid cards are stand alone services. the reduction in revenue can only be offset. and profit required in the first place can only come through fees charged by government entities or the card holders using them. in a time of austerity at every government level, a time when governments including the federal government are issuing benefits electronically to save the cost of issuing paper checks it seems unlikely that governments who contract will be in a position to absorb the additional costs so the fees will fall to the beneficiaries who use the cards. if the exception cannot be

realized anyway, the incentive not to charge overdraft fees and to allow a single fee withdraw in order to qualify would be negated. i read with great interest the section concerning anticipated effects of the rule on various parties. i could not find any study of another country's experience that offered convincing evidence as to the ultimate impact on con suners. we are unsure what the ultimate effects may be. i would hope in the future we would undertake a study to quantify the overall effect of this rule on consumers and to this the extent we don't have the authority to gather the data required to conduct such a study, i hope we'll request such authority from congress. finally, i would like to comment on the unavoidable impact, higher fees on checking accounts. one of my first projects was the study of banking account charges. i was working for a community bank contemplating service

charges on checking accounts to offset the likely interest expense associated with now accounts, which were expected to be authorized in coming legislation. they were very expensive to process. we saw a ruk in the number of the smaller accounts and a corresponding reduction in expense significant enough to improve profitability. years later as more and more banks brought back free checking it took me a while to figure out what had changed. until i discovered they changed the dynamic and made the low balance high transaction account profitable. now i have every confidence in the industry and in small credit unions to find new product models to restore profitability and checking account products significant to their business.

it's likely to come at the expense of less accountability. the experience of other countries would suggest overall usage of debit cards for payments would not decline significantly as a result of the regulation but as fees for checking accounts rise, i would expected more consumers to turn to prepaid debit cards. i am concerned about the level of consumer protection covering prepaid reloadable cards. the work required to implement other parts of the act, we couldn't get to it before the time came to transfer regulatory responsibility to the consumer financial protection bureau. i'm proud of all the rules we did propose, but i wish we would have done more on this front. i can only call on you to watch developments in the market and place a high priority on revisiting consume eer protection issue with prepaid cards. mr. chairman, i'm appreciative of all the work that's gone into this role. but given my conviction that the

exemptions will not work in practice, cannot support the burden on small issuers and the highest cost on issuers and recipients of government benefits that will result if we can't find a way to make the exemptions effective. for that reason i oppose the final rule. >> thank you, mr. chairman. let me explain the standard i imposed on myself by judging the recommendation from the staff. it's a two-part standard. first, as would be applicable in any action that we take the question is whether the proposal is consistent with the intent of congress as manifested in the language of the statute. but second, i think we have to toe focus on the the fact that we are required to act here. this is not a question of

discretion on our part whether to act. so the second part was whether i have a concrete alternative proposal that would better realize my own policy preferences while also remaining consistent with the statutory language. with respect to the consistency of the propose d regulation, i believe the staff proposal is consistent with the regulation of the statute. as discussioned in the register notice circulated by the staff. and as mark alluded to in his presentation a few moments ago. there are some possible readings, such as one to craft standards to make an exception to entail enormous levels of uncertainty in the part of issuers, networks and merchants alike as to what fees were

acceptable. here and in other areas the staff has rightly opted instead for permissible readings of the am biggous provisions with sound economic incentives and greater certainty for all relevant actors. still there are provisions whose language does not admit interpretations that some may have preferred. for which there may be good policy arguments. not on economic grounds, but on the grounds of statutory language would not admit that interpretation. i have a concrete alternative to sound policy positions while remaining consistent with congressional intent.

while i share those concerns, i don't have an alternative consistent with the language of the statute that would better achieve the statutory aims. focusing on what the staff proposal was. so i do support the proposed regulation as presented by the staff. they have done a heroic job of simulating the 11,000 comment water levels. and modifying the proposal on the basis of all these comments

and questions. so as to improve it substantially. i'm sure, i'm positive there are many mer chabts issuers, consumers and networks which would want to change much of what has been proposed. it's on those grounds i agree with the staff recommendation. now, there is one matter on which congressional intent was quite clear. and that was the desire to exempt small issuers for the limits on interchanged transaction fees imposed by the statute. unfortunately, though, the statute does not give us the authority necessary to assure achievement of that aim. there is reason to hope the aim will be realized as explained in the federal registry notice, but it's by no means certain.

for everyone's convenience, i did write up this proposal i don't know if you can get it circulated. i won't spend a lot of time on it. i thought it was useful for people to see the language. it basically asks that by the end of six months following the effective date of the rule that the board staff should establish separate interchange fees and secondly, with respect to networks that have established such separate schedules, how the interchange fees received by exempt issuers compare with those prevailing before the rule became effective. and i think that's a relatively straight forward thing to do based on the kinds of information that we contemplated them this will require some

expenditures, time and resources beyond the kind of monitoring that was contemplated. that would be by the end of 18 months following the effective date of the rule, the staff determined and report to board on three matters. first changes in exempt issuers, changes over this period. second, whether there's evidence that merchants have rejected debit cards of customers of exempt issuers and third, how the network exclusivity provisions from which these issuers reserve course not exempt have affected small issuer costs. i recognize ad second and third in particular will not be susceptible to comprehensive study but in an effort to gather relevant information will be useful for us for the affected parties and for the congress in assessing whether the intended

exception was effective. i don't know how you want to proceed with this. kbl r. >> i agree. it shouldn't be a formal amendment. we should make it a sensible board. and instruct the staff to carry it out subject to any feasibility issues that arise in the process. is that acceptable? >> that's fine. >> let's finish with you and then before we vote on the full rule i would like to hear views on her suggestion. >> needless to say, it's been enormously controversial. speeches were crafted lawsuits were filed. millions of lobbying dollars

were spent and meetings have occurred. debates on the statutory provision and the proposed rule have been robust and acrimonious. i want to start by acknowledging the work of the exemplary staff here who handled the work neither as a crawl nor as a sprint, but handled it as the marathon that it was. they worked diligently and effectively and diligently to make sure we fulfilled the requirement set out in the law. the law states the board shall prescribe regulations. and that mandate is what brings us here today. we are fot at liberty to say no. the staff proveeded with the utmost of good faith and consider ad number of alternative formulations it has attempted to craft a regulation

as close in approximation to this congress' intent as possible to create a standard capable of being complied with and capable of being examined for and that minimizes as much as the language provided by congress allows the possible of adverse or perverse economic incentives. i also want to thank all the entity who is have informed this rule making through their submission of public comments. comments prepared by groups and institutions for whom the cost is a large part of their budgets. one issue consistently trazed is the importance of ensuring they are reimbursed for legitimate debit card costs. this was a theme in comments from consumers as well as comments for banks and credit unions.

this final rule, while not inclusive of all costs is inclusive of a broader swath of costs than originally proposed. this supports an interchange fee higher than the initially proposed fee and permits a recovery of costs by the vast majority of issuers of debit cards. because this leans towards the inclusion of all permissible costs, there's little information for this rule alone to be the basis for making those banks and credit unions that operate officially less accessible the federal reserve needs to continue to pay close attention to this result as well as how the regulation affects small banks and credit unions which often provide safe, lower

cost financial products to millions of americans. one virtue of the board's final rule is it provides the ability to watch whether a two-tiered price structure is maintained or erode eroded we need to focus on the the future of payment methods exempt from the law. in particular, what will this rule mean in terms of the development and use saj of prepaid, reloadable nongift cards and from the perspective of the consumer will different types of payment methods provide americans with the ability to have their poor financial needs met in our economy.

i want to underscore my colleague's unease. when a regulator has to intervene to better align pricing with costs, what market must be working less than competitively. we're only doing what congress said. it's no secret they had significant concerns about escalating debit and interchange fees. by some estimates those fees amounted to $16 billion in 2001 and stood at $48 billion in 2009. these have a disproportionately harmful effect on the 25% of the unbanked population and other consumers that pay by cash and checks since the consumers never receive the benefits of any card reward programs funded by interchange fees. the bottom 50% of income earners pays $66 # million more in higher prices to subsidize $554

million in payment card rewards. whether we ultimately disgreat on the functions, it appears that we have no choice in this matter but to adhere to congress's directive, even when the guide posts for achieving requirements are far from clear. the proposed rule is a worthy attempt, and i recommend it move forward. >> thank you, governor. this was a difficult rule. i'm appreciative of the staff's effort. i think the final rule shows a lot of responsiveness to the many comments that we received, and i do think it's a good faith and carefully executed attempt to implement the will of congress in setting these

parameters. the concerns that i have had have been making the exemption for smaller issuers effective. they are not exempt from the network if exclusivity rule, subject to the same forces that others will be subject to and the federal reserve does not have the power to require networks to maintain a two-tier pricing system. they l give us the best shot at making that effective. it's described in more detail in the rule we intend to set up a transparent system in which we will regularly publish the interchange fees that networks collect for exempt and nonexempt issuers. we will monitor the effects going forward. if it doesn't work we'll know and think about what else can be

done. it's encouraging many networks have maintained a two-tier system. i hope they will follow through with their commitments and those network who is have not yet committed will consider doing so. given that i think this is is best available solution that implements the will of congress and also makes economic decisions. for example, the use of a cap both simplifies supervision and is also best for inducing cost min mization by issuers, i will support the rule. let me ask my colleagues if they have any questions or comments on the informal instruction to staff and see what the response is to that. >> i'm supportive of the

proposal. >> as am i. i am algs. >> as we vote on this as we vote on this rule, then. we'll do that with the understanding that we will continue to monitor various aspects of the interchange market. and we will use the information, including updates and costs in thinking of appropriate measures in the future. i need a motion. >> moved. >> second? >> second. >> let's go around. >> i support. >> i'm in favor. >> i support. >> i do as well. the motion carries. i thank the staff. thank the audience. the meeting is adjourned.