Demand and Supply of GBP and INR notes

Victoria Cleland, Head of Notes Division of Bank of England gives this superb speech on the topic. 

She looks at an important but ignored objective of central banking – circulation of currency notes. Moreover, ensuring demand for currency notes matches the supply.

For cash to be convenient, and to function as an efficient means of exchange, a suitable denominational mix should be available to the public. And this is the challenge in note circulation that I would like to discuss today: although the title of this presentation did provide an opportunity to discuss a myriad of other challenges that the cash industry faces!

In the UK, ATMs are more popular than ever before, but the vast majority only dispense £10s and £20s. As a result it is more difficult for ample good quality £5s to enter circulation. Evidence shows that the public want to acquire more £5s to make payments, and to receive better quality £5s in change. So I am pleased to say that the fortunes of the fiver are being transformed. £5 dispense is being introduced at thousands of ATMs up and down the country, and in 2012 we expect that £4 billion good-quality £5s will enter circulation – nearly twice as many as last year.

I want to outline this morning how the Bank is working with the UK cash industry to improve the availability and quality of the £5, and the lessons that can be learned by others for addressing the challenge of low denomination notes.

There are some interesting aspects of economics of currency notes:

Each denomination has a different role in the cash cycle. The £50 is predominantly a store of value: it is typically retained, or ‘hoarded’, for long periods. We observed a sharp increase in the acquisition of £50s  during the financial crisis – increasing by nearly one-third in the last quarter of 2008 alone – as some people withdrew money from bank accounts to physically hold as cash. The £20 and £10 are the main transactional notes in the UK, accounting for – respectively – around 65% and 31% of the value of notes acquired by the public. They are used almost entirely for consumer payments: they are typically withdrawn from ATMs, spent in a retail transaction, and then banked – so that the value can be converted into an interest bearing asset.

The £5 is typically used as a transactional note that frequently changes hands between consumers and retailers, but it is less frequently banked. A note used by one consumer as payment is often received by the next as change. Retailers, wary of running out, sometimes retain all the £5s they receive as ‘float’. Or they may only bank the scruffiest £5s, which are then returned to the NCS for fitness-sorting. A typical £5 is now sorted less than twice a year (Chart 2): in contrast a typical £10 note is fitness-sorted by the NCS around nine times a year, and a typical £20 around four times a year. They are the notes that are most commonly acquired by consumers from ATMs and therefore are tendered more in transactions. Retailers frequently accumulate surpluses of these denominations and so are more confident about banking them.

In crisis the way people moved to GBP 50…is fascinating really.

She then says GBP 5 note is mainly an availability problem and they have tied with banks to supply more of these via ATMs. The circulation of GBP 5 has risen since then.

In 2009, we worked with HSBC to pilot £5 dispense in 100 ATMs. The pilot sought to understand the typical concerns of ATM operators about £5s. These included capital expenditure, additional refill costs, ATM performance and customer satisfaction.

Encouragingly, the results indicated that the cost implications of ATM dispense are manageable. Existing £10 or £20 ATM cassettes can be re-configured, rather than purchased as new. Some ATMs are typically replenished long before they run out of notes – i.e. they carry significant ‘contingency margins’. Replacing a £10 or £20 cassette with one carrying £5s should not require such an ATM to be replenished more frequently. £5 notes do not ‘jam’ the machinery more than the other denominations if they are fitness-sorted to an appropriate quality. And our surveys suggest that many people would prefer £5 notes in their ATM withdrawals.

£5 ATM roll-outs began in September 2010. £5 ATM dispense is on track to have increased five-fold by Easter. Nearly a third of the planned ATM re-configurations have already taken place, with a further third on  schedule for completion by the middle of 2011. HSBC and Barclays have completed the vast bulk of their roll-outs. RBS, Nationwide and the Post Office are also well on the way, with a number of other major ATM operators due to begin roll-outs in the coming weeks. We have also  encouraged the largest independent ATM operators to introduce £5 dispense – a number have this in hand already. These include Bank Machine, which has over 200 £5-only ATMs, and Cashzone, which has just begun a pilot for £5 ATM dispense. In 2010, just over £2 billion of £5s were acquired by the public – mostly over bank, building society or Post Office counters. In 2012, we expect the total annual acquisition of £5s to increase to £4 billion (Chart 5).

These numbers are very encouraging. ATM operators are not just responding to the Bank’s target (that 1.2% of their total dispense is in £5s), they are responding to popular demand. They tell us that their customers are pleased to receive some £5s in their withdrawals.

Further, she points that in UK note printing is outsourced to a private party:

In 2003, the Bank outsourced the physical printing of new notes to the commercial sector. The contract is currently held by De La Rue, and work on the retender process is about to commence in time for the contract expiry in 2015. The Bank still has a crucial role in the design of the notes and implements a rigorous quality control process.

This is amazing stuff as one would assume this currency note business to be fully in public domain. Wondering how many countries have outsourced this?

In India’s case RBI GOv explained:

We have four presses where currency is printed. Two presses – one at Nasik in Maharashtra and the other at Dewas in Madhya Pradesh are under the control of the Government; the remaining two presses – at Mysore in Karnataka and at Salboni in West Bengal are under the control of the Reserve Bank. The currency printed at these four presses is distributed across the country through 20 of the Reserve Bank’s regional offices and over 4200 currency chests located in commercial banks across the country.

What about economics of Indian currency? RBI in its annual report has a chapter on currency management. It indicates couple of things:

  • Both value and volume of banknotes in circulation increased during 2009-10 (Table VIII.1).
  • Within  notes, Circulation of 10 Rs and 1000 Rs note increased most; in terms of both volume and value.
  • Circulation of Rs 2 and 5 value has declined; Circulation of Rs 50 and Rs 100 has declined; Rs 500 has remained stagnant
  • Kind of indicates that Rs 10 has replaced Rs 2 and Rs 5 as the transaction note. Also Rs 1000 has become the preferred store of value along with Rs 500. Rs 50 and Rs 100 are losing their share.
  • This could be because of high inflation eroding the value of lower denomination notes. One cannot buy anything for Rs 2 and Rs 5 anymore. Also, one needs more of Rs 1000 and Rs 500 to buy things which could have been bought by Rs 50 and Rs 100 earlier.
  • Another thing is incomes have been rising leading more people to demand higher denomination notes.
  • This could lead to interesting research actually…

Useful stuff from Victoria Cleland…

2 Responses to “Demand and Supply of GBP and INR notes”

  1. Shankar Says:

    Very Interesting speech. How you compared it with RBI info is really good too.

    I found this paper (paid version) which could give some addl info to readers:

    “Empirical causality between bigger banknotes and inflation”

    Maybe one needs to track denominations is active use to gauge inflation 🙂



  2. How EMU countries use Euro notes? « Mostly Economics Says:

    […] like we saw in UK currency usage shot up in the […]

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