Last week the U.S. Court of Appeals for the Second Circuit issued a major win for American Express in a landmark decision in United States v. American Express Co. In that case the government filed an antitrust suit against American Express challenging Amex’s nondiscriminatory provisions (“NDPs,” or “anti-steering” rules), which bar merchants from offering discounts or incentives to customers to encourage them to use non-Amex credit cards.
Amex pursued this appeal after losing before the district court. As we have reported, in February 2015 the Eastern District of New York held the NDPs violate Section 1 of the Sherman Act. Applying a rule-of-reason analysis, the district court concluded these NDPs to be non-price vertical restraints that imposed actual, concrete harms on competition in the market for credit and charge card network services. In conducting this analysis, the district court focused on the competitive effects of NDPs on merchants. It defined the market as one for “network services,” meaning the market for “core enabling functions provided by networks, which allow merchants to capture, authorize, and settle transactions for customers who elect to pay with their credit or charge card”—that is, the market in which Amex, Visa, MasterCard, and Discover compete to offer merchants the ability to process credit card transactions through their networks.
The Second Circuit disagreed and reversed the district court. The Second Circuit rejected several aspects of the district court’s analysis—but, most fundamentally, the Court determined that the district court erred in focusing entirely on merchants in evaluating harm while ignoring the interests of cardholders.
The Second Circuit’s ruling was driven by the lack of evidence of anticompetitive effects of NDPs on the market as a whole. As the Court emphasized, the plaintiffs in this suit “bore the burden in this case to prove net harm to Amex consumers as a whole—that is, both cardholders and merchants—by showing that Amex’s nondiscriminatory provisions have reduced the quality or quantity of credit-card purchases.” Yet the Court of Appeals found that plaintiffs failed to proffer any reliable evidence of such anti-competitive effects. Plaintiffs could have met their burden by showing that cardholders engaged in fewer credit-card transactions (reduced output), that card services were worse than they might otherwise have been (decreased quality), or that Amex’s pricing was set above competitive levels within the credit-card industry (supracompetitive pricing). To the contrary, the Court found that the “evidence presented at trial suggested that industry-wide transaction volume has substantially increased and card services have significantly improved in quality.”
The Second Circuit held the district court erred in defining the relevant market by focusing solely on the merchant-side of the network card platform while excluding cardholders from that relevant market definition because, in the case of Amex, the two sides of the market were inter-related. The fee charged to merchants necessarily affects cardholder demand because merchant attrition from higher fees will cause cardholders to switch to alternate forms of payment. And that in turn has a “feedback effect” on merchant demand, thus influencing the fee charged to merchants. This error, the Court of Appeals explained, stemmed from the district court’s overreliance on United States v. Visa, 344 F.3d 229 (2d Cir. 2003), in shaping the relevant market inquiry. Visa defined the relevant market as the market for payment-card network services, in which the four major credit card companies were the sellers and the buyers were both card issuers and merchants. The Second Circuit drew distinctions between Amex and Visa, emphasizing that the vertical restraints in Amex were “markedly different” from the horizontal restraints—the Court found that Visa and MasterCard prohibited member banks from issuing cards on the Amex or Discover platforms—that were at issue in Visa.
The Second Circuit further held that the district court erred in its market power analysis by relying on “cardholder insistence” (that segment of Amex’s cardholder base that insists on paying with Amex) to support a finding of market power. While Amex accounts for around 26% of the credit card purchase volume in the United States, the district court held Amex had significant market share and would be able to exercise leverage over merchant-consumers because of the “amplifying effect” of cardholder insistence. That analysis was grounded in a study of Amex’s pricing practices, by which Amex charged higher rates to targeted industry segments in which cardholder insistence was high. But the Second Circuit disagreed that cardholder insistence supported a finding of market power. Cardholder insistence results from the competitive benefits (such as more attractive rewards) offered to cardholders, not market power. Since those increased rewards are the equivalent of a price decrease to the consumer, the Second Circuit reasoned, it makes no sense to say that Amex would have the power to increase prices unilaterally when it attracts customer loyalty only by reducing its prices. And cardholder insistence yields concomitant competitive benefits to merchants that choose to accept Amex cards because better rewards incentivize consumers to make high-priced purchases, yielding higher revenues for merchants.
There already have been rumblings about the Department of Justice seeking an appeal of the decision to the Supreme Court. We will continue to monitor this case and report on future developments.
