Thread by @patio11

Bits about Money #3: How credit cards make money.

bam.kalzumeus.com/archive/how-cr…

Some brief elaborations from the cutting room floor:

The essay talks about cross-subsidization at a few points. One fascinating form of cross-subsidization was that credit cards *changed who ultimately pays for an individual's use of credit.*

This had huge ramifications for small businesses, which are historically (and currently) horrifically capital constrained almost all of the time. They also have extreme difficulty in lining up traditional bank financing.

Credit cards let merchants opt-in to financing customers.

This is a supplement to traditional trade credit and it is far less capital intensive for the merchant, which themselves is quite possibly an SMB. In lieu of "You take delivery of the goods/services now but pay me in 90 days; I know (or certainly hope) you're good for it", ...

... the interchange (fee that the merchant pays to the credit card ecosystem for accepting cards) contains a large inducement to the issuer (the user's bank), making the bank happy to front its own capital with less underwriting and at cheaper terms than it would w/o interchange.

This is something I didn't appreciate prior to working in the industry, when I ran SaaS companies.

"Why are they so happy to give me more cards but won't approve any signature loans? Aren't those basically the same thing?"

Nope! CCs are systemically better for banks.

And thus, the existence of the credit card as a payment instrument (and the willingness of e.g. Amazon to accept it for my AWS bill) made some of the U.S.'s largest banks willing to give my business +/- $100k in credit without ever once meeting me or thinking about my SaaS.

We also see this with Buy Now Pay Later firms like e.g. Afterpay, Affirm, and Klarna.

They make credit ~completely free to the end-users of it, by asking the store to cover the cost of it through a higher-than-credit-cards interchange fee.

"Isn't that a step backwards? We had trade credit prior to credit cards."

It actually isn't, because without-loss-of-generality Sephora had to worry about credit quality, collections, defaults, etc back in the days when department stores managed their own credit accounts on prem

The BNPL firms take all of that and *finalize the sale at the point of purchase*, just like cash and credit cards do, which means that the merchant can book it as revenue rather than having to book it as deferred revenue, manage receivables, and all that jazz.

As you can tell, I geek out on this stuff. If there are other subjects you'd like me to geek out on, drop me a line here or at patio11@ the domain name above.