ATM surcharging - automated teller machine owners' assessing of an additional fee to cardholders of other banks - has become the most controversial issue facing electronic banking networks and their members.

Although the practice has existed in some form for almost a decade, the implications of more widespread surcharging on consumers, banks, nonbank ATM deployers, and networks may not be fully understood. My analysis suggests the long-term effects may not be salutary, especially for small banks and consumers.

By way of background, ATM networks historically placed a fee burden on card-issuing institutions, known as interchange, to compensate ATM owners for the costs of network transactions and provide an incentive to deploy machines. These cost-based fees generally range between 35 and 75 cents a transaction, and may be higher on ATMs at off-premises or nonbank locations.

To recover their costs, card-issuing banks may charge their customers "foreign fees," usually 25 cents to $2. Some also charge for using their own terminals, but studies indicate smaller banks and credit unions are especially likely to absorb these costs to maintain a free or low-cost ATM service.

Until recently, network fee structures were relatively noncontroversial. Because banks both issued cards and deployed ATMs, it was relatively inconsequential whether a bank paid more than it received in interchange fees, or vice versa. This began to change in the 1990s when banks - and nonbanks such as Electronic Data Systems and Affiliated Computer Services - began to deploy ATMs to earn interchange revenue and surcharges.

Surcharge-hungry organizations used antitrust litigation and legislation to attack prohibitions on surcharging. The possibility of treble damages made these high-stakes battles. The two most prominent challenges, initiated by a network member in Texas and Nevada, were resolved by permitting surcharges. Since 1990, some 14 states have enacted legislation allowing them, usually at the behest of ATM deployers seeking to profit in a vacation area.

Legislators viewed the outcome as generally efficient and the impact on resident consumers slight. Surcharges range between 50 cents and $2 a transaction, although in some resorts or casinos they can be as high as $10.

Last summer, when SouthTrust Bank of Alabama challenged the Plus network's prohibition, a network finally prevailed. Judge Sam Pointer said Plus' rule was "designed to enhance economic efficiency and render markets more . . . competitive." (Plus later reversed course and allowed surcharging.)

With surcharges, consumers will pay a high price for fewer benefits than what proponents of surcharging promise - more ATMs in low-volume locations like airports. The ATM market is saturated; deployment has increased by over 20% in the past five years, when surcharges were basically nonexistent.

Are surcharges necessary? Let's look at the economics. ATM owners already collect interchange fees. Their most significant expense for the ATM is rent. Since owners of these locations benefit from the ATM deployment, they should be willing to offer lower rental fees to encourage deployment. This approach has been taken by many supermarket chains.

Ultimately, the benefit from increased deployment at a relatively small number of low-volume locations is unlikely to outweigh the increased costs to consumers. There is no reason why these surcharges will not migrate to the higher-volume ATMs consumers use every day.

Louisiana's legislature permitted surcharging in 1993, and Mississippi's a year later. Surcharging permitted the deployment of a handful of off- premises ATMs, primarily in casinos. But surcharges were imposed not only at those ATMs, but at 75% of others in the network.

ATM owners and card-issuing banks have dramatically different incentives. The ATM owner's relationship with a cardholder is transitory; it will seek the highest price the market will bear. It has little incentive to do otherwise.

The card-issuing bank nurtures a longer-term customer relationship. ATM access is just one of several products the bank offers. Because it wants to keep the cardholder interested in other products, the bank would not overcharge.

Surcharging would impose certain "externalities," inevitably to be borne by the card-issuing bank.

For one, surcharging will, at least initially, generate customer confusion and complaints, resulting in additional costs to the card issuer - not the ATM owner - and damage to customer relations.

Similarly, price gouging by ATM owners at locations where there is no lower-priced alternative will make customers angry at the bank or the shared network.

Finally, and perhaps most important, the loss of card-issuer control over the price for ATM access will deter banks from implementing pro- competitive pricing: free (or discounted) ATM usage at all locations, or ATM fees bundled with other services. The incentives for banks to offer lower-priced or free ATM access will diminish.

Next: Further consequences of surcharging

Mr. Balto is the attorney adviser to Robert Pitofsky, chairman of the Federal Trade Commission. This article reflects Mr. Balto's own views.

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