Retail Payment Systems

At the retail level, most transactions use cash, i.e. notes and coins.   However checks and plastic cards dominate in dollar volume because they typically involve more expensive purchases.

Cash Payments

Cash is the preferred method for small payments because it is the only one that involves no credit, and therefore no promises.  Checks are a form of credit and involve fixed costs that are independent of the amount of the check.  Thus checks are seldom used or accepted for very small payments. 

Payments by Check 

A check is an order to transfer funds from the payer's bank account to the payee's bank.  Most small banks do not process checks themselves.  Instead they send them either to a correspondent bank, with which they have an arrangement, or to the Fed which also provides that service.  Both charge a fee.  A check drawn on a bank outside the area of the local clearinghouse generally involves the use of the Fed's clearing facilities. 

Float refers to checks in the process of clearing.  When the payee deposits the check in his bank, he receives credit the same day for that amount.  Until the check is processed through the clearing system, the payer continues to receive credit on his account.  Thus float represents an interest-free short term loan to the payer.  Credit cards offer a substantially longer float period.  The benefit of float to credit card holders is one reason why debit cards have been relatively slow to catch on in the U.S. 

Giro Payments

The problem of bad checks is avoided by the giro payment method of transferring ownership of bank deposits.  With a check, the payer gives the payment order to the payee.  The payee must present the check to either the payer's bank for cash or to his own bank for deposit which will then initiate the clearing process.  With a giro payment, the payer sends the payment order directly to his own bank, which then makes payment to the recipient's bank.  After the payment has been received, the payee is notified by his bank. 

A giro payment cannot bounce because the payer's bank simply will not accept the order if there are insufficient funds to cover it.  The giro is not a useful way to pay for unplanned purchases in a store.  Its principal use is for regular periodic payments like taxes or utility bills.  Paper giro payments are unknown in the U.S. 

Plastic Cards 

  Background

Plastic cards had their origin in store credit cards.  Retailers would often extend credit to favored customers, allowing them to charge their purchases and settle up at the end of the month with a single payment.  The retailer accepted the risk of default.  As the number of customers who bought on credit increased, retailers issued identity cards which evolved into store credit cards. 

Later, the financial system developed the third-party credit card, expanding the use of credit to a wider base.  The retailer would receive immediate payment from the issuer, less a discount.  The cards were accepted only at any retailers agreeing to the arrangement.  The card holder would be sent a bill at the end of the month by the issuer for all of his purchases.  Third-party cards did not generally offer the option of paying over time. 

Banks entered this business with third-party cards of their own.  However the cards were not widely acceptable because of the restrictions on interstate banking.  The banks came up with a solution, the four-party card which involves two banks in each transaction, the cardholder's bank (the issuer of the card) and the retailer's bank. 
 
  Charge Cards 

With a charge card, you are expected to pay upon receipt of a monthly statement.  Nevertheless you do receive a loan up to the date of the payment.  Most people write a check to pay off their card bill.  The American Express Green Card is the predominant charge card. 

  Credit Cards 

With a credit card, you can pay your charges in full or finance them up to the credit limit that the card issuer has offered you.  As with a charge card you get a loan, but you can extend the term of the loan almost indefinitely so long as you make a minimum payment each month.  The most widely used is the Citibank Visa card.  Because credit cards now play such an important role in the retail economy, a more detailed explanation of how they work is provided in the next article.

  Debit Cards 

With a debit card, the payment comes right out of your checking account.  The card is issued by the entity that holds your money on deposit, probably a bank, but possibly a money market fund.  When you present your card, money is transferred from your account to the merchants account that day.  The Check Card issued by Bank of America is a typical debit card.