FRB: 2005 New Currency Budget

2005 New Currency Budget

Action Requested
Staff requests that the Board approve the proposed 2005 new currency budget of $532.9 million, which represents a $20.8 million increase over the 2004 estimate.¹ This increase reflects primarily the higher cost of printing new currency in 2005 because of an increase in the Bureau of Engraving and Printing's billing rates.

Discussion
Under the Board's delegated authority, the director of the Division of Reserve Bank Operations and Payment Systems (RBOPS) submits an annual print order for new currency to the director of the Bureau of Engraving and Printing (BEP). The BEP reviews the print order and establishes billing rates for new currency that are used to prepare the annual new currency budget. The Board reviews and approves the budget and subsequently assesses the Federal Reserve Banks through an accounting procedure similar to the one used in assessing the Banks for the Board's operating expenses.

In August 2004, the director of RBOPS forwarded to the BEP a print order for 8.6 billion notes for fiscal year 2005. Because the BEP operates on a fiscal year, which began October 1, 2004, and ends September 30, 2005, division staff estimates the Board's calendar year budget for new currency by eliminating the cost of notes that the BEP will produce in the first quarter of its fiscal year and estimating the cost of notes that the BEP will produce in the fourth quarter of the calendar year. Table 1 compares the Board's calendar year 2005 budget with the 2004 budget and 2004 estimated expenditures.

Table 1
New Currency Budget
(calendar year)

	2004 Budget (thousands)	2004 Estimate (thousands)	2005 Budget (thousands)	Percent Change 2004E/2004B	Percent Change 2005B/2004E
	2004 Budget (thousands)	2004 Estimate (thousands)	2005 Budget (thousands)	Percent Change 2004E/2004B
Print order (number of notes)	9,071,575	8,857,600	8,631,606	-2.4%	-2.6%
Printing costs for FR notes	$498,604	$492,814	$509,974	-1.2%	3.5%
Currency transportation costs	$13,126	$13,146	$16,050	0.2%	22.1%
Shipping FR Notes from BEP (new)	$10,800	$10,000	$12,500	-7.4%	25.0%
Intra-System shipments (fit)	$2,300	$3,100	$3,500	34.8%	12.9%
Shipping pallets back to BEP	$26	$46	$50	76.9%	8.7%
Counterfeit-deterrence research	$3,100	$2,796	$3,521	-9.8%	25.9%
Central Bank Counterfeit Deterrence Group	$3,100	$2,796	$3,452	-9.8%	23.5%
Reprographic Research Center^a	n.a.	n.a.	$69	n.a.	n.a.
Treasury's Office of Currency Standards	$3,539	$3,340	$3,400	-5.6%	1.8%
Total	$518,369	$512,096	$532,945	-1.2%	4.1%

^a The Reprographic Research Center is a new line item in the calendar year 2005 budget. Return to table.

2004 New Currency Expenses
Staff estimates that 2004 new currency expenses will be under budget by $6.3 million, or 1.2 percent. The underrun is due primarily to the BEP producing fewer notes in the first quarter of fiscal year 2005 (the last quarter of calendar year 2004) based on a lower fiscal year 2005 print order than staff estimated at the time of the 2004 budget submission.

Staff and BEP management work collaboratively during the year to monitor inventories and production needs and make modifications to the print order to meet Reserve Bank currency requirements. Although the BEP produced the 8.7 billion notes that the Federal Reserve ordered in fiscal year 2004, the Board's smaller print order for fiscal year 2005 resulted in the BEP producing fewer notes in the last quarter of calendar year 2004, particularly for the $1 denomination. Staff reduced the quantity of $1 notes in the fiscal year 2005 order by 214 million notes, or 2.4 percent. The lower fiscal year 2005 print order resulted in the calendar year 2004 estimate falling short of the budget by $5.8 million, or 1.2 percent.

Estimated expenses for total currency transportation costs met 2004 budget expectations, only exceeding the budget by $20 thousand, or 0.2 percent. Higher-than-expected expenses for shipments of fit currency from one Reserve Bank office to another (intra-System shipments) were offset by lower-than-expected expenses for new currency shipments from the BEP. As staff has reduced overall payable days of Reserve Bank inventories to the System guideline of 40 days, intra-System shipments have increased in order to balance higher receipts of currency for some Reserve Bank offices with lower receipts for others. Although the intra-System shipments have increased as staff helps to manage System inventories of currency, these costs are much less than the cost to print and ship new currency from the BEP. The average cost of shipments between Reserve Banks, which are used to help balance inventories, increased 8.7 percent between 2003 and 2004, from $4,700 to $5,111, respectively. This increase largely reflects the increase in fuel costs.

2005 New Currency Budget
The proposed 2005 new currency budget is $532.9 million, 4.1 percent higher than 2004 estimated expenses. Despite a slightly larger calendar year print order in 2004, the printing cost for Federal Reserve notes in the 2005 budget will be 3.5 percent, or $17.2 million, greater than the 2004 estimated calendar year expenses. The higher budget expense is due primarily to higher BEP billing rates for new currency.

Printing Federal Reserve Notes. The 2005 budget includes a print order of 8.6 billion notes for calendar year 2005. The BEP reported that its 2005 billing rates for all currency types will increase over 2004 rates (see table 2). The weighted average cost per 1,000 notes will increase from $54.90 in 2004 to $59.04 in 2005, or 7.5 percent. Despite declining manufacturing costs, the cost per note printed increased due primarily to a change in product mix and an increase in capital spending at the BEP.²

While overall billing rates increased, manufacturing costs are expected to decline for all denominations, except $5 notes. The estimated average manufacturing cost per thousand notes produced will decrease from $29.85 in 2004 to $29.66 in 2005, or 0.6 percent. The decrease in manufacturing cost is due primarily to increased BEP productivity, reduced spoilage, and lower cost of input materials (paper and ink). This decrease, however, is more than offset by cost increases due to a change in product mix and an increase in capital spending, which, when combined, yield the higher overall billing rates shown in table 2.

Table 2
BEP Billing Rates

Currency type	2004 billing rates per thousand notes	2005 billing rates per thousand notes	Projected number of notes 2005 (millions)	2005 printing cost (thousands)
$1, $2 notes	$39.30	$40.10	3,368.2	$135,065
Series-1996 ($5)	$52.10	$52.90	710.2	$37,569
Series-1996 ($10, $50, $100)^a	$64.30	$65.10	908.8	$59,163
Series-2004 ($10, $20, $50)^b	$75.90	$76.33	3,644.4	$278,177
Total			8,631.6	$509,974

^a No Series-1996 $50 notes will be produced in calendar year 2005. Return to table.
^b No Series-2004 $10 notes were produced in 2004. Return to table.

Table 2 summarizes the billing rates by currency type, which largely reflects the sophistication of security features. The 2005 billing rates reflect four types of currency produced: (1) $1 and $2 notes, which have not changed in design and do not include the watermark which is present in the Series-1996 and Series-2004 design notes; (2) $5 notes, which reflect the Series-1996 design but do not include color-shifting ink; (3) Series-1996 $10 and $100 notes, which include color-shifting ink; and (4) Series-2004 $10, $20, and $50 notes, which include a new color-shifting ink and an additional high-level security feature.

Table 3 illustrates the number of notes by denomination that the BEP will print in calendar year 2005 compared with the number of notes printed in 2004. The $510.0 million printing cost budgeted for the 8.6 billion new notes accounts for 95.7 percent of the total 2005 new currency budget.³ The number of $1 notes in the 2005 print order is 20.4 percent lower than in 2004. As a percentage of the total print order, the number of $1 notes decreased from 48 percent in 2004 to 39 percent in 2005. This decrease in the $1 note order is designed to encourage Reserve Banks to process their existing inventories of $1 notes on a more timely basis so that fit notes can be put back into circulation, rather than ordering new $1 notes to meet demand.

Table 3
Number of Notes Printed
(millions per calendar year)

Denomination	2004 Estimated	2005 Budget	Percent change 2004E/2005B
$1	4,230.4	3,368.2	-20.4%
$2	0.0	0.0	0.0%
$5	492.8	710.2	44.1%
$10	454.4	523.3	15.2%
$20	2,592.0	3,217.1	24.1%
$50	380.8	160.0	-60.0%
$100	707.2	652.8	-7.7%
Total	8,857.6	8,631.6	-2.6%

In addition to the decrease in $1 notes, the 2005 new currency budget contains a larger share of the most expensive notes, as expected, which are the Series-2004 design. In 2004, the Series-2004 notes included only the $20 notes (introduced in October 2003) and a portion of $50 notes (introduced in September 2004), whereas, in 2005, all $20 and $50 notes and a portion of $10 notes (to be introduced in fall 2005) will use the Series-2004 design. Overall, the Series-2004 notes have increased as a share of the total order from 33 percent in 2004 to 42 percent in 2005.

The higher billing rates for fiscal year 2005 are also due to an increase in capital spending at the BEP's Washington, D.C. facility. The 2005 budget includes a capital investment increase of $14.5 million, or 72.6 percent, over the 2004 budget. This increase results from the BEP's plans to purchase two new currency presses to replace two fully depreciated presses. These two new presses should improve the quality of note production, productivity and efficiency, and the BEP's ability to add new security features. In addition to the new presses, the BEP plans to upgrade its currency inspection systems and make infrastructure improvements, such as upgrading its electrical distribution and air handling systems.

The 2005 new currency budget also includes expenses for currency transportation, counterfeit-deterrence research, and Treasury's Office of Currency Standards (OCS), which represent the remaining 4.3 percent of the budgeted expenses. A description for each follows.

Currency Transportation. The 2005 currency transportation budget is $16.1 million, which includes the cost of shipping new currency from the BEP to Reserve Banks, shipping fit (and some new) currency among Reserve Banks (intra-System shipments), and returning currency pallets to the BEP. The 2005 budget for new currency shipments is $12.5 million, which is 25.0 percent higher than 2004 estimated expenses. A new two-year currency transportation contract between the Board and armored carriers will become effective on January 3, 2005. The transportation costs for the air and ground shipments covered by the contract have increased because of the significant increase in the cost of fuel. In addition, during the previous transportation contract, one of the carriers, which had the majority of the over-the-road routes, was unable to meet its contract obligations, which caused staff to reassign a number of routes to other carriers at a higher cost. For the upcoming contract period, the over-the-road shipment prices have returned to historical levels, which exceed the abnormally low rates in the previous contract and used in calculating the 2004 budget.

The 2005 budget for intra-System shipments is $3.5 million. These shipments include transporting currency from Reserve Bank offices that have excess fit (or new) currency to offices that would otherwise require new currency from the BEP. The 2005 budget for intra-System shipments is 12.9 percent higher than 2004 estimated expenses. This increase results from higher transportation costs and an expected increase in the number of intra-System shipments for $10 notes. The additional shipments are necessary to balance System inventories of Series-1996 $10 notes among Reserve Bank offices before issuing the Series-2004 $10 note design in the fall. Finally, the 2005 budget for returning currency pallets from Reserve Banks to the BEP is $50 thousand, which is 8.7 percent higher than 2004 estimated expenses. This increase represents the expected increase in the use of pallets as $10 notes are shipped using over-the-road transportation.

Counterfeit-Deterrence Research. The 2005 budget includes $3.5 million for counterfeit-deterrence research, which is comprised of the Central Bank Counterfeit Deterrence Group (CBCDG) and the Reprographic Research Center (RRC). The CBCDG operates under the auspices of the G-10 central bank governors to combat digital counterfeiting. The U.S. share of the 2005 CBCDG budget comprises 98 percent of the $3.5 million counterfeit-deterrence budget and is 23.5 percent higher than the 2004 estimate. The remaining two percent of the counterfeit-deterrence research budget is comprised of a $52 thousand one-time fee and a $17 thousand annual membership fee for the RRC, which is hosted by the National Bank of Denmark. The National Bank of Denmark provides the RRC as a state-of-the-art adversarial testing facility to test banknote designs and counterfeit deterrent features. Central banks sponsor the RRC and set policies for its operation, while banknote printers and law enforcement use the facility for adversarial testing. The BEP and the United States Secret Service (USSS) recommend that the Board join the RRC in order to have access to this testing facility. We agree that the RRC will provide a cost-effective facility that will allow the BEP and the USSS to test new banknote designs and potential security features.

Treasury�s Office of Currency Standards (OCS). The 2005 budget for reimbursement to the U.S. Department of the Treasury for OCS expenses is $3.4 million, which is 1.8 percent higher than the 2004 estimated expenses. OCS develops Reserve Bank standards for cancellation and destruction of unfit currency and note accountability, and it reviews Reserve Bank cash operations for compliance with its standards. In 2004, OCS established a new mutilated currency operation at the BEP's Fort Worth, Texas, facility, which is similar to the facility it has in Washington, D.C. As a public service, OCS processes claims for the redemption of damaged or mutilated currency; reimbursement for these expenses is included in the 2005 budget.

Data for Chart 1

YEAR	1990	1991	1992	1993	1994	1995	1996	1997	1998	1999	2000	2001	2002	2003	2004E	2005B
Nominal Cost in millions of dollars	190	260	295	355	368	373	403	367	408	487	456	344	430	514	512	533
Real Cost (CPI Adjusted) in millions of dollars	190	249	275	321	324	320	336	299	327	382	346	254	312	365	350	363

Chart 2 Value of Notes Printed Compared with Number of Notes Printed

Data for Chart 2

YEAR	1990	1991	1992	1993	1994	1995	1996	1997	1998	1999	2000	2001	2002	2003	2004E	2005B
Billions of notes	7.00	8.02	8.45	8.03	9.33	9.96	9.44	9.58	9.20	10.8	8.97	8.18	7.39	8.39	8.86	8.63
Billions of dollars	84.47	107.96	103.19	104.89	128.82	148.24	194.64	142.23	163.26	285.49	67.46	50.20	123.30	126.2	152.8	149.8

Chart 3 Cost of Currency Compared with Number of Notes Printed Bar and Line Chart

Data for Chart 3

YEAR	1990	1991	1992	1993	1994	1995	1996	1997	1998	1999	2000	2001	2002	2003	2004E	2005B
Billions of notes	7.00	8.02	8.45	8.03	9.33	9.96	9.44	9.58	9.20	10.8	8.97	8.18	7.39	8.39	8.86	8.63
Cost per 1000 notes	$26	$30	$36	$41	$38	$37	$40	$43	$47	$43	$47	$49	$50	$58	$55	$59

1	The 2004 estimate is the latest forecast of current-year expenses and allows for a comparison to the 2004 approved budget, which was approved in December 2003, and the proposed 2005 budget. Return to text.
2	The 2005 budget also includes an increase in the public education expenditures associated with the issuance of the Series-2004 currency design. This increase does not substantially affect the currency billing rates. Return to text.
3	Charts 1-3 in the attachment show the new currency expenses, the value and number of notes printed, and the number and cost of notes printed from 1990 through the 2005 budget period. Return to text.