Consumers' Use of Payment Systems

In her recent article in the New England Economic Review, Joanna Stavins explores the characteristics of consumers that influence their adoption of various forms of electronic payments. At the outset, she poses a basic question. Since credit cards are more costly for retailers and financial institutions to process than checks or debit cards, why aren't these cost differences passed on to consumers? But consumers are not motivated to adopt the form of payment that is less costly to the seller, since the prices of goods and services are the same, regardless of the method of payment. Stavins argues that merchants do not charge for different means of payment in part because they are wary of the costs of differentiating among payment systems. Also, retailers fear that they would lose business if they charged consumers for paying for their purchases.

Stavins briefly summarizes the different means of payment and previous market research on factors affecting consumers' adoption of various payments systems. She then uses data from the Federal Reserve Board's 1998 Survey of Consumer Finances to "evaluate the effect of demographic attributes such as education and income on the probability of using electronic payment instruments." While the survey reports consumer behavior in 1997, the basic relationships between types of payment systems used and demographic and location characteristics are unlikely to change much over short periods of time. Nor have the economic principles underlying her analysis changed. It should also be noted that demographic factors are not the sole determinants of the use of electronic payment systems. For example, consumers with poor credit records might like to use credit cards as a means of payment, but card issuers may not be willing to provide them with the service.

The accompanying table shows that about three-fourths of respondents used checks or credit cards, whereas about a third used debit cards. Whereas more than four-fifths used commercial banks for their financial services, just over a third used credit unions. Only 22 percent used savings banks.

She finds that certain demographic characteristics and the locations of potential users strongly affect consumers' use of certain payment systems. (The survey data relate to the use of payment systems, not the frequency of use.) In general, older consumers were less likely than the younger generations to use "new fangled" devices such as ATMs and debit cards. The one exception was in the case of credit cards. Consumers under the age of 35 were less likely to use credit cards than older consumers, quite likely because they posed a higher risk than older consumers and consequently could not obtain credit cards. The higher their income and education, the more likely were consumers to use ATMs, debit cards and credit cards. It should be noted that incomes and education are highly correlated. At least we like to think so.

In her concluding section, Stavins explores why electronic payment systems have not become more widespread. She suggests two basic reasons. First, while it is cheaper for financial institutions to process payments electronically than with paper checks, it is not appropriate to make that comparison. Banks already have check-processing systems in place. But, costly, new electronic systems must be built to process payments more efficiently. Second, as we have shown, a significant portion of consumers are not using the current payment systems and presumably would not be easily attracted to a different, but more efficient system, just because it is available. Second, there is an issue of "network externality." Essentially, to make electronic payment systems work, the potential suppliers of the service must agree on the basic characteristics of the network. Given the thousands of banks, finance companies, credit unions and other suppliers of financial services, the rapid development of a universal electronic payment systems network is unlikely.