How Credit Cards Make Money
Credit cards make money primarily through interchange fees (1-3% of each transaction paid by merchants) and interest charges on revolving balances. Additional revenue comes from annual fees, late fees, and foreign transaction fees.
Background
- Patrick McKenzie (patio11) writes *Bits About Money*, a deeply researched newsletter on financial infrastructure. This article breaks down the hidden economics of credit cards.
- Most people think card companies profit from late fees and interest. In reality, the biggest single profit center is **interchange fees** — a ~1–3% charge on every transaction, paid by merchants but baked into consumer prices.
- Key players: **Issuers** (banks that give you the card), **Networks** (Visa/Mastercard, which set rules), **Acquirers** (processors for merchants), and **Merchants** (stores). The system is a highly engineered four-party model.
- "Rewards" (cashback, miles) are not freebies: they are a rebate funded by interchange fees, which are higher on premium rewards cards. This means non-rewards users and cash customers effectively subsidize rewards users' perks.
- Why it matters: The US credit-card system is uniquely expensive and profitable compared to other countries (due to limited regulation of interchange). It shapes everything from small-business margins to inflation — and proposed legislation (like the Durbin Amendment expansions) aims to alter this balance.