Butchering Credit Cards

In my last post, I explained that all credit card systems in the United States charge merchants a fee above marginal cost and that the systems use this revenue to stimulate card use. The Visa and MasterCard systems call this increment above cost their interchange fees, but all systems effectively do the same thing. At first blush, this sort of above cost pricing suggests serious antitrust concern. Aren’t card systems extracting supra-competitive profits from merchants? And even if they compete these profits away simulating card use, doesn’t overcharging merchants distort resource allocations? This post explains why the answers may be no.
In a typical market in which a producer competes for a single type of customer, an efficient price – one that will lead to an optimal consumption level – will generally approximate the marginal cost of production plus the profit necessary to attract investment to the industry. This pricing model is efficient because it maximizes short-run output consistently with the producer earning sufficient revenue to continue providing the product or service.
Credit card markets are not typical, however, in that card systems must price their products in a way that appeals to two inter-related sets of customers, merchants and cardholders. In such a two-sided market, a purely cost-based rule – such as “set the price charged to the cost-causer at marginal cost” – is unlikely to produce an optimal pricing structure. Although the economic literature is riddled with papers written by consultants for the card systems – not that there’s anything wrong with that – economists on all sides generally agree on this basic point. Compare Meg Guerin-Calvert and Janusz Ordover’s analysis with Michael Katz’s take, from which I quote above.
In a two-sided market, efficient pricing must take account of both total cost and the relative elasticities of demand between the two customer sets. If customers in such a market were charged the marginal cost of serving them, they would fail to internalize the benefits of their decisions to the customer set on the other side. If demand elasticities diverge to any significant degree, industry output under a marginal-cost pricing policy would be inefficiently low. To obtain an efficient output level, a producer must charge the customer set that is more sensitive to price less than marginal cost (effectively enabling those consumers to internalize the benefits to both sides of the market).
The classic example is the daily newspaper. Readers have many sources of news, including television, magazines, and the internet. Reader demand for newspapers is thus likely to be quite elastic, leading them to turn away from the morning paper if the subscription price were to approach the marginal cost of producing and delivering it. By contrast, advertisers perceive significant benefits in print advertising (so long as readership is high) and are thus willing to pay substantially above the newspapers’ marginal cost of printing and providing associated services. As a result, readers pay significantly below marginal cost and advertisers pay substantially more. Competition between newspapers and other media for advertising space still drives pricing, but not to marginal cost plus normal profit for each customer set.
This pricing pattern efficiently optimizes newspaper circulation, satisfying both the advertisers’ need for broad exposure and the readers’ need for information. Assuming that newspapers have little market power, both advertisers and readers would be worse off if pricing were forced into line with marginal cost. Were advertising fees to drop, and reader fees proportionally increased, prices would move toward marginal cost on each side of the market. Because reader demand is more elastic, however, readership would drop more than advertising would increase, and advertising rates would thus fall. As a result, the paper would (1) earn lower overall revenue; (2) be less valuable to advertisers because readership would fall; and (3) be less valuable to readers because the paper would have less revenue for newsgathering.
To the extent that the elasticity of demand varies significantly between merchants and cardholders, credit systems resemble newspapers. Assuming that merchants, like print advertisers, are willing to pay significantly above the marginal cost of credit card acceptance services, but cardholders, like newspaper readers, would be unwilling to pay the marginal cost of providing credit cards and associated services, then efficient credit card pricing should place a greater share of the costs on merchants.
One might question whether this analysis explains the array of interchange fees that the card systems now charge. Even if efficient pricing requires merchants to pay more, why should they pay more still for reward cards used primarily by wealthy customers who would arguably make roughly the same purchasing decisions with a simple basic credit card? The answer may be that price discrimination can result in competitive markets. Michael Levine’s work is instructive. He uses the example of cattle, which are generally sold as whole animals in a competitive market. The butcher’s cost of preparing particular cuts does not vary in any significant way, and those cuts are again sold in quite competitive markets. Yet, ultimate consumer prices vary considerably depending on the desirability of the cut of meat. Although the comparison between wealthy customers and filet mignon may be somewhat crude, the value of high spending consumers to merchants may justify higher card acceptance fees for the cards used by big spenders in much the same way that the desirability of the tender cuts leads to higher prices despite competition.
All this suggests that interchange fees and price discrimination based on type of card would exist in an efficient and competitive credit card market. But these pricing practices do not ensure that the market we have is in fact efficient and competitive. If above cost pricing and discrimination are not determinative, what can we look to in order to evaluate the competitive performance of credit card markets? My next post will comment on that issue.

The Ubiquity of Interchange Fees

I am very pleased to join the Commercial Law Blog as a guest, blogging about credit card payments. Before discussing the economic effects of current fee structures and how card pricing might be improved, this post lays some groundwork, suggesting that these fees are best understood as the portion of the merchant discount fee that a credit card system uses to support card issuing. Viewed in this way, all credit card systems in the United States charge the economic equivalent of interchange fees.

Back in the early days of credit cards, virtually all banks in the associations both issued cards and signed merchants to accept them, a function known as merchant acquiring. The systems then required that the entire merchant fee go to the issuing bank. Over time, this fee structure, channeling all revenue to the issuer, did not provide sufficient incentives to add merchants to the network. To remedy the problem, the two bank associations that became Visa and MasterCard adopted a system-wide formula for dividing the merchant fees between issuers and acquirers.

Functionally, acquirers paid merchants a discounted price for credit card paper and then sold that paper to the card-issuing bank at a somewhat lower discount. The total merchant fee came to be called the “merchant discount” and the portion passed on to the card-issuing bank was labeled the “interchange reimbursement fee.” The amount retained by the acquirer never got a formal name, but might have been called the short-end-of-the-stick fee. From early on, interchange raised antitrust concern because it enabled card-issuing banks to avoid competition on the fees that they effectively charged to merchants. Nevertheless, it has withstood legal challenge for more than three decades.

Over the years, the interchange fee has evolved. Although Visa’s and MasterCard’s fees differ in some ways, they have both followed a similar path. Initially, each charged a single fee to all merchants. In the 1980s, the associations developed separate fees for paper and electronic transactions. The 1990s brought different fees for certain merchant types, as the systems sought to bring in lower margin retailers such as supermarkets. They also added a separate fee for situations in which the magnetic stripe could not be swiped, reflecting perceived fraud risks. Today, interchange fee schedules are a complex array of charges that vary depending upon the type of merchant and its card sales volume, the type of transaction, and the type of card used. The most significant factor may now be what one might term the incremental reward fee, a higher interchange fee that applies when a customer uses a card that rebates cash, awards airline miles, or provides some other benefit for using the card. In addition, as technology has improved and merchant acquiring has become more competitive, acquirers have reduced their margins at the same time that the systems have increased interchange fees. As a result, the percentage of the merchant discount paid to issuers has increased.

Because the phrase interchange fee was created by the bank-card associations, and antitrust challenges -- including the on-going merchant litigation -- principally attack the lack of competition among Visa and MasterCard issuers, it is often assumed that the economic implications of interchange are limited to the bank card associations. But that isn’t true. Although American Express and Discover do not have a formal interchange fee, they have the functional equivalent: A merchant fee that exceeds the marginal cost of providing the retailer with card-acceptance services plus normal profit.

The four-party (issuer/cardholder & acquirer/merchant) nature of a Visa or MasterCard transaction makes this economic equivalence in fee structure apparent. Visa/MasterCard acquirers now operate profitably on about one quarter of the merchant discount that they take from retailers, passing the remaining three quarters to card issuers. Three-party systems (joint issuer-acquirer/cardholder/merchant), such as American Express and Discover, charge merchant fees that exceed substantially the revenue that Visa and MasterCard acquirers retain. Surely, the three-party systems, like Visa and MasterCard banks, use this excess merchant revenue to stimulate card use. For example, American Express now uses some of its merchant revenue to pay banks to issue AmEx cards. Although the percentage of the merchant fee used to support card issuing varies across systems, in all cases more than half of what retailers pay probably supports card issuing. Next time, I will blog about the economic effects of generating revenue from merchants that is used to stimulate card use.

Why just go when you can Boingo? Just be careful you don’t go when you don’t want to!

This morning, I was reading Bob Lawless’ post on Creditslips about his own tale of bad things that can happen with credit cards (see Unauthorized Charges Go Wild on Me). Bob’s tale reminded me of a nagging matter of my own that I’d found on my checking account statement this week for a $15.90 charge to my debit card for Boingo Wireless. Back in February, I created a Boingo Wireless account while travelling back from the AALS Contracts Conference so that I could use the Internet at the airport. Fortunately, I don’t travel too often because the Boingo service would log me on and charge my debit card whenever I visited anywhere with service. So, when I stayed at the Marriott Residence Inn in Pittsburgh recently, Boingo charged me for two days of service even though the wired Internet service I used was free at the Residence Inn.

Boingo does not send invoices, so unless you check your credit/debit card statements, you are not likely to notice the charges or any errors. Boingo uses another little trick that Bob mentioned . . . they keep the charges small. They never charged me more than $15.90 at one time and spread them out over time.

Inspired by Bob Lawless, I called the Boingo folks this morning (and removed the software from my computer). Knowing my travel history, I kindly explained that this must be a billing error. The first line representative I spoke with employed the “confuse the caller” tactic by discussing the initial set up of the account back in February. Then, she explained their method of billing whereby charges are not made at the time of usage, but later. I call this the “confuse the user” tactic to make it hard for customers to know what charges relate to what days you might have used the Boingo service. She finally agreed to send me an invoice. Then we arrived at the heart of the matter, the Residence Inn charges. I explained to her that the Residence Inn provides free Internet, there would be no reason to need the Boingo service.

Here’s where we arrive at the automatic login feature that Boingo has. Once installed on your computer, Boingo is always looking for service for you. And, it saves your sign-in information conveniently for you. Since the customer signs up for the service which enables the “easy” re-login on other dates, you have used the service and the charge is valid. The customer must pay. At that point, I requested a supervisor, who told me the same story. When I raised issues about whether this results in truly “authorized” charges to credit/debit cards, whether Boingo was misusing customer credit cards, and fraudulent charging of cards, the supervisor immediately agreed to refund my money (and close my account). Not sure how good my claims were, but the Boingo supervisor had surely heard them before. Next time, my desperation for Internet service will have to give way to my fear of others automatically hitting any of my accounts. "Power tends to corrupt, and absolute power corrupts absolutely.” The morality of some vendors surely lessens once we give them our card data.

Commercial Law Welcomes Steven Semeraro as Guest Blogger

Steven Semeraro of Thomas Jefferson School of Law joins the blog as a Guest Blogger for the summer. Steven’s two recent papers, Credit Card Interchange Fees: Debunking Six Myths and Credit Card Interchange Fees: Three Decades of Antitrust Uncertainty argue that the current interchange-fee-setting system poses no substantial competitive threat. His work also takes on the issues of consumer welfare created by the effects of interchange fees. My favorite of the “Six Myths” is that the easiest solution to problems arising from the pricing of interchange fees is to permit merchants to surcharge credit card transactions. One of my complaints in the area of interchange fees is the lack of transparency in how much credit card use actually costs consumers even under the current system.

We look forward to hearing Steven’s thoughts on a variety of payment issues, including the Federal Reserve’s plans to alter Regulation Z (see What's in your wallet?).

Whither Economics?

In an interesting post on Critical Mass, Erin O'Connor confesses her ignorance about "how money works." She writes: "But I'm like most of us. . . . Everybody thinks he is an authority on how money ought to be managed and spent. But few of us really understand what money is, how it works, or what kinds of consequences can come from certain kinds of financial decisions."

It's no wonder, she says, so few of us have a clue about financial matters. Nobody studies economics. A study of leading universities' degree requirements (ACTA, The Hollow Core, 2004) showed universities don't require a course in basic economics as part of the core curriculum.

O'Connor attributes our nation's staggering financial ignorance to "academe's broadly socialist monoculture." Universities embrace "collectivism and cooperation, redistribution of wealth, government-run social programs, single-payer health care," but are hostile to capitalism and the infrastructure that makes markets work. "You don't have to look hard at all to find colleges and universities that press students, in course after course, to make moral determinations about how economies ought to be run--but you would be hard pressed to find a school that requires students to ground those determinations in actual economic knowledge."

The Treasury Department's Financial Literacy and Education Commission should take note. Instead of requiring disclosure of more information to consumers who cannot interpret it, Treasury should focus on introducing all Americans, inter alia, to the guns 'n butter tradeoff, the speed and time value of money, and the effect of marginal change in supply or demand on the price of widgets. I'm not expecting that any time soon.

What's in your wallet?

Not that any of this is a surprise to me, but Consumer Reports just came out with a new report about credit card reward programs. Not only does Consumer Reports conclude that we spend more with rewards cards, but also that complicated rules and restrictions makes most cards pretty troublesome. Consumer Reports also found that many of these cards also carry annual fees and higher interest rates. So why do consumers like them anyways? It must be the lure of getting something for free. Or, at least thinking it is free. Of course, one must ask whether the airline miles or charitable donation are worth the potential interest if you carry a balance. It might be easier just to make a donation and take the tax deduction!

While not tackling this particular problem, the Federal Reserve has announced plans to alter Regulation Z’s provisions regarding: (1) bank increases of rates on pre-existing balances; (2) bank practices of applying payments in ways to maximize interest charges; (3) certain practices that impose interest charges using the “two-cycle” method to increase the amount of interest due; and (4) the amount of time consumers have to make payments. Of course, the banks have not welcomed these changes by the Federal Reserve. While I give the Federal Reserve kudos for beginning to tackle the complex credit card fee issues, it would seem that this should only the beginning. In addition to fees associated with carrying a balance on a card, the fees associated with using credit cards are far from clear (see Good Results For Visa). I hate to be a cynic, but I would guess that the final result after wrangling with the credit card industry will be a watered down version of some modest consumer protections.

Ding, Dong, the Which* is Dead

At its annual meeting last week, the American Law Institute approved an amendment, which NCCUSL (a.k.a. the Uniform Law Commission) had previously approved, replacing the oft-jilted text of Revised UCC § 1-301 with language consistent with pre-Revised UCC § 1-105:

§ 1-301. Territorial Applicability; Parties’ Power to Choose Applicable Law.
  (a) Except as otherwise provided in this section, when a transaction bears a reasonable relation to this state and also to another state or nation the parties may agree that the law either of this state or of such other state or nation shall govern their rights and duties.
  (b) In the absence of an agreement effective under subsection (a), and except as provided in subsection (c), [the Uniform Commercial Code] applies to transactions bearing an appropriate relation to this state.
  (c) If one of the following provisions of [the Uniform Commercial Code] specifies the applicable law, that provision governs and a contrary agreement is effective only to the extent permitted by the law so specified:
    (1) Section 2-402;
    (2) Sections 2A-105 and 2A-106;
    (3) Section 4-102;
    (4) Section 4A-507;
    (5) Section 5-116;
    [(6) Section 6-103;]
    (7) Section 8-110;
    (8) Sections 9-301 through 9-307.

In so doing, the bodies responsible for the Uniform Commercial Code followed the lead of thirty-two of the thirty-three states that have enacted Revised Article 1 to date. Only Louisiana — deferring to its Civil Code to ascertain the applicable law where the transaction does not fall within the scope of a more specific choice-of-law provision elsewhere in the UCC — has enacted a version of Revised § 1-301 that differs non-trivially from the new official version.

* - As in, "Which state's law do you want to govern our contract?"

2009 AALS conference on transactional law

Transactional law in Long Beach, California

To: Faculty Members interested in Transactional Law

From: Planning Committee on 2009 AALS Conference on Transactional Law

• Lisa Fairfax, University of Maryland, Chair
• Victor Fleischer, University of Illinois
• Peter Pitegoff, University of Maine
• D. Gordon Smith, Brigham Young University
• Alfred Chueh-Chin Yen, Boston College

Subject: Requests for Proposals on Transactional Law Scholarship and Innovative Methods of Teaching Transactional Law

We are planning the AALS 2009 Mid-year Program on Transactional Law, which will be held on June 10-12, 2009 in Long Beach, California. "Transactional law" refers to the substantive legal rules that influence or constrain planning, negotiating, and document drafting in connection with business transactions, as well as the "law of the deal" (i.e., the negotiated contracts) produced by the parties to those transactions. We are seeking proposals from (1) faculty members interested in presenting on innovative methods of teaching transactional law, and (2) faculty members interested in presenting new scholarship that relates to transactional law.

About the Program

In 1994, the AALS held a Workshop on Transactional Approaches to Law which inspired significant innovation and experimentation in transactional teaching and scholarship. This Program provides a unique opportunity to take stock of developments in this area since that influential workshop. One important goal of the Program is to bring together faculty from different doctrinal areas of law to exchange ideas and information on teaching and scholarly innovations in the area of transactional law. Toward this end, we encourage proposals from faculty members with an interest in transactional law in any discipline including such specialties as bankruptcy, business associations, clinical law, contracts, commercial law, intellectual property, international business, labor and employment law, real estate transactions, securities regulation, and taxation.

Please note that the AALS 2009 Mid-Year Meeting will include three programs: A Program on Business Associations: Taking Stock of the Field, followed by Concurrent Programs on Transactional Law and Work Law. As a result, you may have received, or be receiving, Request for Proposals in connection with these other Programs. We would encourage you to submit proposals to any or all of the programs in which you have an interest in participating. We also encourage submissions from junior faculty.

Request for Proposals on Transactional Law Scholarship

In keeping with the conference theme, the Program will host a series of concurrent works-in-progress sessions designed to give interested faculty members an opportunity to present new scholarship related to transactional law. We are seeking works-in-progress proposals on transactional law scholarship broadly understood. Thus, we are seeking proposals on scholarship that focuses on the legal, financial, and practical implications of business transactions in a variety of different settings. In addition, we welcome proposals on the transactional side of the legal profession and the role of lawyers in consummating such transactions. We do not mean to limit the range of proposals in this area, and would welcome proposals on transactional scholarship of all types.

Request for Proposals on Innovative Methods of Teaching Transactional Law

We are planning a 75 minute plenary session on innovative methods of teaching transactional law, and are seeking proposals for faculty members interested in presenting in the session. Many law professors teach transactional skills in a variety of contexts, from stand-alone "Deals" or Business Planning courses to in-class exercises as part of doctrinal classes. A number of law schools have developed innovative courses or programs in transactional law. We are interested in hearing discussion of the various approaches with an eye towards discovering what works and what doesn't. To anchor the discussion, participants may wish to explore how they use (or choose not to use) case studies as a method for teaching transactional law. We welcome proposals from faculty members who wish to share their insights on using case studies and other innovative techniques and the manner in which those techniques enhance student development of transactional skills. As with the request for works-in-progress, we do not mean to limit the range of proposals in this area.

Submission Guidelines

Interested faculty should submit a 300-500 word written proposal of the proposed work-in-progress or proposed presentation not later than July 15, 2008. Faculty may submit proposals for both the work-in-progress and the presentation. In addition, as noted above, faculty who has submitted proposals in connection with the Business Association's Request for Proposals also may submit to the Program on Transactional Law. Please submit the description by email to transactional@aals.org. The presentations will not be published.

Chosen presenters must register for the Workshop and will be responsible for their own travel and other expenses. Any questions should be directed to Professor Lisa M. Fairfax, University of Maryland School of Law, Lisa M. Fairfax.

Tennessee Enacts Revised UCC Article 1; Illinois SB 2080 Makes Further Progress

On May 15, Tennessee Governor Phil Bredensen signed SB 3993, subsequently designated Chapter 930, making Tennessee the thirty-third state to enact Revised UCC Article 1 since the ALI and NCCUSL promulgated it in 2001.

Prospects look reasonably favorable for Illinois to follow suit in the near future. The Illinois Senate unanimously passed SB 2080 on April 9. On May 20, the Illinois House Judiciary Committee recommended passage and the bill was placed on the House's "short debate" calendar. On May 23, the House extended the final action deadline until May 31.

Revised Article 1 is already in effect in twenty-eight states: Alabama, Arizona, Arkansas, California, Colorado, Connecticut, Delaware, Florida, Hawaii, Idaho, Indiana, Iowa, Kentucky, Louisiana, Minnesota, Montana, Nebraska, Nevada, New Hampshire, New Mexico, North Carolina, North Dakota, Oklahoma, Rhode Island, Texas, Utah, Virginia, and West Virginia. It will take effect in Pennsylvania on June 15 and in Kansas, South Dakota, Tennessee, and Vermont on July 1.

As I have discussed previously, the two primary bones of contention during the enactment process have been uniform R1-301's choice-of-law rules and uniform R1-201(b)(20)'s "good faith" definition. None of the thirty-three enacting states has adopted uniform R1-301; instead, all have chosen to either leave their pre-revised 1-105 in place or to enact a substitute 1-301 with language consistent with pre-revised 1-105. (Louisiana subsequently amended its substitute 1-301 to diminish the distinction between choice-of-law rules applicable to UCC and non-UCC transactions; but, a fuller exploration of that amendment is another topic for another day.) There had been less uniformity with regard to defining "good faith." Twenty-three states have enacted uniform R1-201(b)(20)'s "honesty in fact and the observance of reasonable commercial standards of fair dealing" definition; while ten states — including Tennessee — have retained pre-revised 1-201(19)'s "honesty in fact in the conduct or transaction concerned" definition, reserving the requirement of commercial reasonableness for merchants under 2-103(1)(b) & 2A-103(3). If enacted as it currently reads, Illinois SB 2080 would make uniform R1-301 0-for-34 and would make Illinois the eleventh enacting state to retain the bifurcated good-faith standard.

Loaded Questions

On April 2, the Institute for Legal Reform released the results of a consumer survey that indicated consumers oppose legislation regulating the use of binding arbitration in consumer disputes (the proposed Arbitration Fairness Act). The telephone poll found that 71 percent of likely voters oppose efforts by Congress to ban arbitration agreements from consumer contracts. 82 percent actually prefer arbitration to litigation as a means to settle a serious dispute with a company. The American Association for Justice says its survey shows the opposite. 81 percent of Americans express disapproval of mandatory binding arbitration. 64 percent of voters favor the legislation, 26 percent oppose it. How can this be?

Here's one of the statements made as part of the American Association for Justice poll:

"As you may know, consumers are sometimes required to sign a contract with a company when they buy certain services or products such as automobiles, cell phones, or nursing home care. Today, these contracts often include a binding arbitration provision, which says that the consumer agrees to have any dispute with the company decided by an independent arbitrator in binding arbitration, rather than by a judge or jury in a civil legal proceeding. Do you approve or disapprove of these binding arbitration provisions in consumer contracts?"

Now here's one from the Institute for Legal Reform poll:

"Now suppose for a moment you had to sign a contract with a company when you purchased their goods or services. If you could choose the method by which any serious dispute would be settled between you and the company, which would you choose? Arbitration, which does not require going to court ...or... Litigation, which does require a lawsuit and going to court. "

Hat tip to Consumer Law and Policy Blog.

Neither statement provides an intelligent person with the information necessary to answer the question. If I ever get a call from a poll taker, I'd want to know what my "right to go to court" costs me in terms of the price I pay for consumer goods and services. I'd ask about the odds for consumers in arbitration vs. judicial resolution of their disputes. I'd want to know what was in it for me — apart from empty rhetoric about my right to "go to court" or vague inferences about the relative "fairness" of arbitration vs. adjudication. And, in the extremely unlikely event that I did not hang up on the poll taker within seconds after he mispronounces my name, I'd resent being used as a tool for others whose stake in the controversy dwarfs that of the average consumer.

Good results for Visa

Despite troubles in the economy and the financial sector generally shares of Visa are up forty-six percent (46%) since going public just two months ago. Quarterly profits for Visa came in at $314 million, or 52 cents a share. Not bad results. The position of Visa and Mastercard is different from Discover and American Express in that the two former companies do not lend money to consumers. Visa and Mastercard only process charges made by companies that use their systems. Since they don’t lend, Visa and Mastercard don’t assume the risk of consumer default during harsh economic times. Instead, that risk is taken by the banks that issue the cards. It would seem that these companies should experience business success so long as people continue to use their credit and debit cards with the Visa and Mastercard label.

For my part, I often find little cash in my wallet. No worries. I know that I will be using the ‘ole debit card to pay for gas, groceries and the like. About half of Visa’s profits come from debit card purchases (a quarter for Mastercard). As payments become increasingly dependent on electronic systems, Mastercard and Visa should continue to do well. Of course, there is that nagging issue of the staggering consumer debt that could dull the continued success of the system operators. The primary issue that comes to my mind, though, is that of the per transactions fees Visa and Mastercard set for merchants and banks that use their systems. Will Visa and Mastercard begin to turn profits that resemble the big oil companies? Should the government regulate the fees set by the system operators?

Although more than twenty countries, including the EU and Australia, have taken up the interchange fee issue in terms of anti-competitive behavior, the issue is not resolved here in the United States. About $30 billion of interchange revenue is at stake according to a recent report by the Kansas City branch of the Federal Reserve Bank. The many lawsuits over the fees have been consolidated before the U.S. District Court of the Eastern District of New York for trial later this year. Moreover, the “Credit Card Fair Fee Act of 2008” is currently pending in Congress. This seems to set up the classic conflict between market forces and regulation. With a recent National Retail Federation report that the interchange fees cost families about $400 per year, I find myself surprisingly drawn to the idea of regulation. Hidden fees always get my ire going. Just something else for me to think over as I pull out my debit card to fill up the gas tank again.

Phishing in International Waters: The New Phace of Organized Crime

The U.S. Justice Department and Romanian authorities announced two federal indictments (C.D. Cal. and D. Conn.) against 38 people who allegedly participated in two international phishing operations with ties to organized crime. The charges include conspiracy to violate the Racketeer Influenced and Corrupt Organizations (RICO) Act, and a host of hacker crimes such as conspiracy in connection with account access devices (credit or debit cards), unauthorized access to a protected computer, bank fraud and aggravated identity theft. U.S. Attorney for C.D. Cal., Thomas O'Brien said experts estimate losses at more than $3 million.

Romanian based "suppliers" phished for and obtained credit and debit card account data and personal information from cardholders by baiting more than 1.3 million e-mails. The "suppliers" sent the data to U.S. based "cashiers" who did the tech work, encoding the account data onto magnetic strips on access devices (including hotel key cards that work nicely for this purpose). "Runners" tested the cards and used the ones that worked to draw cash. U.S. participants took a cut and transferred the balance to the Romanian suppliers.

International organized crime is deep into the world payment system and just about everything else. Last month, U.S. Attorney General Michal Mukasey announced the Justice Department's Law Enforcement Strategy to Combat International Organized Crime . He said that mafia-style organized crime as Attorney General Robert Kennedy saw it in 1961 is a thing of the past. Organized crime is international, but that's not all. "They are more sophisticated, they are richer, they have greater influence over government and political institutions worldwide, and they are savvier about using the latest technology, first to perpetrate and then to cover up their crimes. . . . They touch all sectors of our economy, dealing in everything from cigarettes to oil; clothing to pharmaceuticals. These criminals invest some of the millions they make from illegal activities in the same publicly traded companies as we hold in our pension plans and 401(k)s. They exploit the internet and peddle their scams on eBay, and they're responsible for a significant chunk of the spam email we get."

Leave the gun. Take the cannoli. (Clemenza to Rocco)

Testing Secured Transactions Part II

My exams are all taken and graded now, so I wanted to report back my observations from my earlier post on Testing Secured Transactions. I ended up using a three hour examination with 30 true/false questions and five short answer essays. I actually offered up six short answer essays with the students getting to pick five to answer. The true false questions included all the basics of creating and perfecting security interests and priority. Topics on the short answer essays included: double debtors; new debtors; powers of the bankruptcy trustee; PMSI’s and general collateral descriptions in preexisting financing statements; and priority, proceeds, accounts and chattel paper. I must have had old-time television on my mind, as many of the hypos involved Gilligan's Island, Green Acres and Spiderman. Oh, and a little bit of politics thrown in too. After all, it was the "season" in Pennsylvania as I was drafting this exam.

The exam certainly was hard and rigorous from a time perspective. That said, I am a big believer in law school examinations serving the dual purpose of testing and teaching. I would certainly use this format of examination again. The true false gave me coverage of differing fact patterns, as did the short answer. The students had many situations to contend with, but also had to draft some short essays (typically about a page each) and cite to the appropriate code provisions. As for student performance, with a few exceptions, the students tended to do about the same on each part of the examination. The students who did well on the true/false mostly did about the same on the short answer essay.

Overall, I was also pleased with the quality of the answers given by the students. The rules of double debtors and new debtors probably gave the students the most trouble, but this did not surprise me. I find that the rules of 9-325 and 9-326 are hard for students to grasp (even with the examples in the code). But I did give the students a hint in the review session that these rules might appear on the examination. The next time I teach Secured Transactions, I will be mindful of my approach on these issues to see if there are better ways to make this easier for the students. With this exception, though, I am confident that the students do understand the basics of Article 9.

Most of my students this year will be taking the bar examination in Pennsylvania where Article 9 is no longer on the bar exam. But as these issues come up routinely in practice, the examinations give me confidence that they will be able to solve these issues when they arise. I would use this format of examination again, though it was a close call to pair multiple-choice with a long format traditional essay. I hope that you all had a good semester and have your grading done (or at least almost).

Never Allow a Human to Do a Computer's Job

Over on BNA's Electronic Commerce and Tech Law blog, Thomas O'Toole has posted an interesting and timely discussion of several recent online contracting cases. It's well worth reading.

Awarding attorney’s fees (at least in Texas)

Normally, I tell students that it would be unusual to collect attorney’s fees in an Article 2 sales case (and maybe in contracts cases generally). Well, perhaps I might need to rethink my pitch on this. In the recent case of Medical City Dallas, Ltd. v. Carlisle Corp., the Texas Supreme Court upheld an award of $121,277 in attorney’s fees and $110,449 in damages in a breach of warranty case based on a written contract. The case involved a simple roofing job gone-bad where the roof was warranted for twenty years, but leaked within five years and thereafter with some regularity. The Court concluded (I think correctly) that 2-715 consequential damages generally would not include a buyer’s claim of attorney fees. But, thanks to Texas Civil Practice and Remedies Code section 38.001(8), which allows attorney’s fees in cases based on an oral or written contract, this is not the end of this matter.

The Court acknowledged that breach of warranty and breach of contract are separate causes of action with separate remedies, but that observed that breach of warranty is in essence founded on contract. Therefore, the Court settled the issue in Texas by allowing an award of attorney’s fees to the buyer for the defective roof. Having practiced in Texas, the state’s law is filled with many curiosities. I agree with the Court’s conclusion that breach of warranty is founded on contract. As such, it would be in the letter of the Texas statute allowing attorney’s fees in such cases. Yet, access to attorney’s fees in sales cases is a powerful consumer right. I often tell students that many cases involving defective goods are not litigated because the cost of litigation far exceeds the cost of the defective goods. Even in the Medical City Dallas case, the attorney’s fees exceeded the actual damages. If this bothers you, you are not alone. The risk of misuse here would seem to be high.

So, Why the Disconnect?

To date, five states — Florida, Kentucky, Louisiana, South Dakota, and Vermont — have enacted Revised UCC Article 1 without enacting Revised Article 7, while two states — Maryland and Mississippi — have enacted Revised Article 7 without enacting Revised Article 1. (While Tennessee technically falls into this latter group, I am excluding it because both houses of the Tennessee legislature recently passed a Revised Article 1 bill and I have no reason to believe that Governor Phil Bredesen will not sign it in short order.) Why?

Louisiana's failure to enact Revised Article 7 might be explained by some eccentricity of the Louisiana Civil Code's treatment of documents of title. But, why have Florida, Kentucky, South Dakota, and Vermont revised their versions of Article 1 while retaining (conforming amendments excepted) their pre-2003 versions of Article 7; and, why have Maryland and Mississippi revised their versions of Article 7 while retaining (conforming amendments again excepted) their pre-2001 versions of Article 1?

Inquiring minds want to know.

What About Revised Article 7?

To finishing following up on Robyn Meadows's earlier post, when Governor Edward Rendell signed Pennsylvania HB 1152 into law on April 16, Pennsylvania became the twenty-ninth state to enact Revised UCC Article 7 — joining Alabama, Arizona, Arkansas, California, Colorado, Connecticut, Delaware, Hawaii, Idaho, Indiana, Iowa, Kansas, Maryland, Minnesota, Mississippi, Montana, Nebraska, Nevada, New Hampshire, New Mexico, North Carolina, North Dakota, Oklahoma, Rhode Island, Texas, Utah, Virginia, and West Virginia. Nine days later, Governor Phil Bredesen added his signature to Tennessee HB 3950, bringing the number of enacting states to thirty.

Elsewhere, on April 9, the Illinois Senate unanimously passed SB 2080 — which, as has been true in a number of states (including Pennsylvania, but not Tennessee) proposes enacting both Revised Article 1 and Revised Article 7. The bill now awaits a first reading in the Illinois House, which stands in recess until April 29. Massachusetts HB 4302, likewise, combines Revised Articles 1 & 7. As detailed in my white paper on Revised Article 1, HB 4302 has a tortured history and appears to stand little chance of enactment any time soon.

All of the enacted versions of Revised Article 7 are in effect except for Pennsylvania's, which should take effect on or about June 15, and Kansas's and Tennessee's, which will take effect on July 1. If enacted, Illinois SB 2080 will take effect on or after June 1.

Upcoming Conferences of Interest

Three conferences next month may be of interest to some of our faithful readers. I know they all interest me. I also know that, by the time I get home from the first of the three, I will have been out of town four of the last five weekends and would risk serious marital discord by attending either of the latter two. But, don't let that stop you from attending.

First up, chronologically, is "A Debtor World: Interdisciplinary Academic Symposium on Debt," May 2 & 3 at The University of Illinois College of Law, which is co-sponsoring with the American Bankruptcy Institute. The conference's self-stated goal is to "explore debt as neither a problem nor solution but as a phenomenon. Many different academic disciplines can make important contributions to help us understand why consumers and businesses decide to borrow money, what happens to businesses and consumers under a heavy debt load, and what norms and institutions societies need to encourage the efficient use of debt. Much of this knowledge is compartmentalized into intellectual silos that are rarely cross-fertilized. The goal of the conference is to promote the sharing of this knowledge." The line-up of speakers is eclectic and impressive and the conference promises to be time well spent. Conference registration is still open; however, the conference-rate block of hotel rooms may well be gone.

On May 22 & 23, the University of Houston Law Center's Center for Consumer Law, under the direction of our friend Richard Alderman, presents "Teaching Consumer Law: The Who, What, Where, Why, When and How." The conference faculty includes academics, advocates, and practitioners from the U.S. and several foreign countries and the program appears designed to appeal to attendees with varying degrees of experience and expertise in consumer law and in related areas of substantive law that have substantial consumer dimensions to them (e.g., bankruptcy, sales, payments). In addition to the inherent pleasure of spending two glorious May days in my hometown, conference attendees will be feted to Texas-style Bar-B-Q (known elsewhere as barbecue) and, for a nominal charge, a Houston Astros home game at lovely Minute Maid Park (formerly known as Enron Field and the Ballpark at Union Station). Conference and hotel registration are still open, as of this posting.

Rounding out the month, on May 30 & 31, Emory University School of Law's Center for Transactional Law and Practice hosts "Teaching Drafting and Transactional Skills: The Basics and Beyond." With panels geared toward both neophytes teaching courses that are ripe for infusing drafting and other transactional skills and those already teaching drafting and other transactional skills in their courses who are looking for fresh ideas, "[t]his conference offers those who teach drafting and transactional skills the knowledge and tools they need to comprehensively train students who are studying these areas of law" and "those at the forefront of developing these new courses a forum in which to exchange ideas about teaching, and promoting the teaching of, transactional law and skills." Among an excellent group of speakers is our friend and colleague Scott Burnham, whose book, Drafting and Analyzing Contracts (LexisNexis 3d ed. 2003), is a must-read and who is a most excellent house- and office-guest. Conference registration is open, as of this posting. Attendees are responsible for their own accommodations. For those who want to compare Texas-style Bar-B-Q to Carolina-style barbecue, at the far end of the Emory campus is a wonderful place called Dusty's. It's worth a visit if for no other reason than to buy some sauce to take back home with you.

The (Next to) Last Shall be (Among the) First

For several years now, those of us who teach UCC Articles 3 and 4 have had to caution our students that New York (the financial and commercial capital of the Western hemisphere) and South Carolina (home to many fine golf courses) had not adopted the 1990 revisions of Article 3 and 4, on which most payments teaching materials focus much of their attention. More recently, we have had to decide how much emphasis to give the 2002 amendments to Article 3 and 4 -- which, until April 15, only five states (Arkansas, Kentucky, Minnesota, Nevada, and Texas) had enacted.

But, wait! In the spirit of Matthew 20:16 (it seems only fair, being Sunday morning and all), South Carolina has vaulted from the rear of the peloton to the lead group. By affixing his signature to SB 936 on April 15, Governor Mark Sanford made law a sweeping revision of South Carolina's Articles 3 and 4 that has the effect of enacting the 1990 revisions as amended by the 2002 amendments.

Meanwhile, New York SB 2410 proposes comparably sweeping changes to New York's versions of Article 3 and 4. However, SB 4120 does not appear to be making any progress since first being referred to the Senate Judiciary Committee in March 2007 (not a typo).

Vermont and Pennsylvania Enact Revised Article 1; Tennessee and Illinois Progress Toward Enactment

Governor Jim Douglas signed Vermont HB 563 into law on April 10. Governor Ed Rendell did likewise to Pennsylvania HB 1152 on April 16. Pennsylvania HB 1152, by its terms, takes effect on or about June 15, 2008. Vermont HB 563, along with Kansas SB 183 (enacted last year) and South Dakota SB 93 (enacted earlier this year), will take effect on July 1, 2008.

Vermont HB 563 and Pennsylvania HB 1152 both eschew uniform R1-301 (making it 0-for-32 for those scoring at home) and adopt the uniform R1-201(b)(20) good faith definition (that tally now stands at 23-to-9 in favor of the new unitary standard).

Elsewhere:

The Tennessee Senate and House have approved slightly different versions of Tennessee SB 3993. The Tennessee Senate is scheduled to vote next Monday (April 21) whether to accept the House's amended version.

The Illinois Senate has unanimously approved Illinois SB 2080, which now awaits a first reading in the Illinois House.

Massachusetts HB 4302 continues to idle.

The bills pending in Tennessee, Illinois, and Massachusetts all reject uniform R1-301. The Massachusetts bill adopts the uniform R1-201(b)(20) good faith definition, while the bills pending in Tennessee and Illinois retain the bifurcated good faith standard currently in effect by replacing the language of uniform R1-201(b)(20) with "honesty in fact in the conduct or transaction concerned."