Why are acquiring banks necessary in the credit card processing ecosystem?
Answer by Scott M. Stolz:
Visa and MasterCard need issuing banks and acquiring banks because both are setup as a networks. Visa and MasterCard do not actually issue credit cards, nor put terminals at merchant locations. They provide a network that allows others to do so.
Issuers vs. Acquirers
The merchant has a merchant account with a bank that allows them to accept credit cards, debit cards and/or prepaid cards. This bank is called the acquiring bank, since it acquires the merchants and transactions. On the other side is the issuing bank, or issuer, which issues the credit cards, debit cards and prepaid cards to customers.
How It Works
When a customer swipes their card at a merchant, the merchant's terminal contact's their bank (the acquirer), which then contacts the payment processing company they use, which routes the transaction to the issuing bank which issued the card, which then approves or declines the charge and communicates that information back through the chain.
Later they settle accounts where the issuing bank pays the acquiring bank so they can pay the merchant. The cardholder is supposed to pay the issuing bank according to terms, of course.
Are They Needed?
They are needed in any system that is not centralized, like the Visa or MasterCard networks, where you have different banks issuing cards and offering merchant accounts. If the acquiring bank and issuing bank are the same, the bank usually processes the transaction internally, avoiding processing fees from the network.
You can think of an acquirer as the entity that allows businesses to accept payments, and the issuer as the entity that issues cards.
You can have a system where the issuer and the acquirer are the same bank or entity, but if you do not have an entity acquiring merchants, then there are no places for the card to be accepted. You need both parts of the equation, even if one company performs both functions.
Side Notes About American Express and Discover
A couple of people mentioned that American Express does both, issue cards and acquire merchants. While that is true, they have changed their business model to allow other banks to issue American Express cards (i.e. additional issuers). Discover has done the same.
If you look on an international level, though, even American Express and Discover use foreign acquirers, which allow their cards to be used overseas. So any internationally accepted payment card would probably need acquirers, at least internationally.