Pricing of Payment Services: A Comparative Analysis of Paper-based Banking and Electronic Banking

Abstract

This paper aims at comparing paper-based banking and electronic banking in terms of cost-efficiency and pricing. The focus is primarily on giro payments made manually by mail and electronically via the Internet, but also by cash over the counter. The paper presents principles of efficient pricing in terms of production fees and capacity fees. It also demonstrates that the current pricing of payment services in Norway and Sweden is far away from these principles as production fees are set below marginal costs while capacity fees are in many cases above capacity costs. Such deviations may stimulate customers to an excess demand for electronic payments while paper-based payments will be depressed.

Notes

1. Enge and Sletner 2004 report a similar tendency for Norway, where the number of mail transactions fell by 16 per cent while at the same time the number of Internet transactions rose by 18 per cent.

2. ‘In low-value, high-volume commoditisable markets (for example, foreign exchange – FX) the focus is on improving process efficiency. For high-value, low-volume markets such as funds management, the focus is on adding value to the products’ [Elliot and Briers, 2001: 7].

3. An alternative form is to use ‘smart cards’. However, that form is not considered here.

4. There is yet another detected complication in practice. Even in the case of a ‘complete’ conversion to an electronic funds transfer system, customers tend to increase their usage of the system as it is more easily available and convenient for them. Hence, the relationship between paper-based and electronic payments in terms of the frequency of transactions may very well prove to be 1:2. However, it may be reasonable to assume that this relationship does not hold between OTC (and p-Giro) and e-Giro payments as these systems are used mainly for paying bills.

5. We are still assuming a ‘frictionless’ world with no administration and information costs.

6. Even though the Postal Giro does not have any branches itself (and now actually is owned by Nordea), we are in this simple description treating Post Office branches as Postal Giro branches.

7. Berger et al. [1996: 720] have stressed the ‘long lags between the introduction of new payment methods and their widespread use’.

8. In cases where online services are assumed to be riskier than paper-based ones there is also a need for a risk premium. For an early analysis of costs and risks see Humphrey et al. 1996.

9. A recent investigation of the external pricing of payment services shows that Swedish banks are generally charging only a fixed annual fee on p-Giro and e-Giro payments (see Table 6). This suggests that variable transfer prices are not (directly) passed on to customers.

10. The statement made by Nordea that 7.0 million ‘Basic’ customers generate a loss of €20 million may very well be a consequence of the zero-pricing of transactions.