A classic is back – cash discounts and credit surcharges

Last month USA Today said gas stations were bringing back the cash discount. Indeed they were. The Nudge blog shot this picture at a Shell station in northern Virginia today.

The regular price was $3.99 a gallon. USA Today makes no mention of why gas stations are advertising a cash discount instead of a credit card surcharge – an old retailing trick – but good behavioral economists know the answer. Humans view discounts differently from surcharges. The first is an opportunity cost; the second a cost outlay. In Toward a Positive Theory of Consumer Choice, Thaler wrote:

Until recently, credit card companies banned their affiliated stores from charging higher prices to credit card users. A bill to outlaw such agreements was presented to Congress. When it appeared likely that some kind of bill would pass, the credit card lobby turned its attention to form rather than substance. Specifically, it preferred that any difference between cash and credit card customers take the form of a cash discount rather than a credit card surcharge. This preference makes sense if consumers would view the cash discount as an opportunity cost of using the credit card but the surcharge as an out-of-pocket cost.

In Choices, Values, and Frames, Kahneman and Tversky argued that the distinction is one of framing. The discount is seen as a gain while the surcharge is seen as a loss. Since humans are loss averse, we are more likely to give up the discount (the gain) than accept the surcharge (the loss).

The fact that the cash discount is applied to gas provides an interesting wrinkle to the original credit card discussion which ignored the good itself. The sharp increase in the price of is especially painful to loss averse humans whose purchasing power at the pump has slipped considerably. Filling up anywhere, with cash or credit, feels like a raw deal. On a good like this, does the gap between those who forgo the discount and those who pass shrink? In other words, if a pair of a jeans and a gallon of gas both have the same cash discount on a percentage basis, would the number of people taking each be similar?

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4 Responses to “A classic is back – cash discounts and credit surcharges”

  1. Andy Says:

    I’d say the reason for cash discounts vs credit card surcharges is more likely because the merchant agreements from both Visa and Mastercard explicitly say that stores cannot charge card-holders more, but they can give discounts for cash.

    No doubt the reason that the credit card companies prefer it this way is behavioural, though.

  2. Andy Says:

    Whoops, I probably shouldn’t have glossed over the quote before commenting!

  3. J. Schmidt Says:

    I am surprised at how many fear mongers are out there rearing their ugly heads. I do not work for an oil company, a convenience gas station, or for a credit card company. However, I feel compelled to state the obviously absent facts here.
    I do own a small automotive service business and we have been reeling from the increases in credit card processing fees in the past couple of years. We spend on average, between $500-$900 every month, in credit card fees.
    Now, from our perspective, the 45% of our customers who pay with cash or check, or even low cost debit cards, are going to have to pay higher prices, just as those paying with credit cards will, because we need to raise our labor rates to cover the ever increasing costs of doing business, specifically the costs associated with increases in credit card usage. Is that fair?
    If I were a customer who pays my bills with cash or check, should I have to pay more because other customers use a payment form that actually costs the business a significant amount of overhead? (Keep in mind that it takes many repair bills to cover those expenses every month. Considering that every sale must cover other costs too: cost of parts, labor, taxes, building mortgage & property maintenance, tools, training, large equipment (like hoists), etc., and finally, a small fraction for owner profit.)
    I only came across this article/discussion as I was looking for information on the legalities of offering a discount to customers who pay with cash (that means actual cash or check), or a little less of discount if you pay with debit card.
    It’s unfortunate that when ever we feel wronged on an issue, we rarely get to the see the flip side of the argument.
    What’s really going on with the retail gas price situation is that people are paying with credit cards, buying less in the convenience store (where the only real profits are), and the only ones getting rich are the fuel companies providing the gasoline (certainly not the retail sellers – check it out) and the credit card companies.
    PLEASE stop bashing your local merchants, they are only trying to make a living – just like you. Look around at how many businesses cannot survive in the current business climate we have. Our only options are soon going to be large retailers and service companies, where you might have to park a mile from the door, stand in the snow and slush to fill your tank and wipe your windows, eat out of styrofoam containers, etc.
    Really. They are the only ones who will be left – once you take the profit out of the small local businesses, and give it to the conglomerates who can save pennies buy cuting your wages, insurance and other basic benefits.
    Take a real hard look at the credit card industry. They are making great profits, and even though people are filing bankruptcy at an alarming rate (we just had an employee go through it), the credit card companies keep giving cards to young adults without financial sense or experience, especially to struggling college students, and to mature adults that are already too far in debt to be able to pay them off each month. Not to mention the rates credt card processors are charging to retailers to cover the extra costs associated with all the perks and programs promoted to those end card users. Often times the card users never really even benefit from those programs, but the credit card companies sure do!
    Our economy is faltering, credit card companies lobby for laws that only protect them and their profits, AND the government will bail them out when they get into trouble. (Like the insurance companies that got bailed out after Katrina – even though they had lots of real estate they could have sold, and were making great profits!) (Golf anyone?)
    Oil companies are posting record profits too! (Profits are from pumping & refining gas to sell, market influences, and from gas company owned credit card fees.) Yet, our government still subsidizes this industry. Why?
    Who is going to bailout the little guy, your corner market, local barber, or your auto repair shop when the expenses to their bottom line put them out of business because they can no longer compete with the big retail bullies (like Wal-Mart)? Just look at what happened to many of the little family farms – gone. Who’s next?

  4. Finansist Says:

    There are many inaccuracies in this article.

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