Financial & operational benefits from polymer—the New Zealand experience

By Brian Lang, Head of Currency & Building Services, Reserve Bank of New Zealand
June 2002
Presented in Rio de Janeiro, Brazil (30.06.02–03.07.02)

Introduction

New Zealand is a country with just 3.8 million people, holders of the America’s yachting Cup and soon to be world rugby champions. Our closest neighbor, Australia, despite a six-fold population advantage, struggles to match us in most endeavors.

However, in one area we are very grateful that our neighbors have excelled; and that is, in providing the World with polymer bank notes.

After closely observing the use of polymer notes in Australia for several years we issued our first polymer bank note into circulation in May 1999.

By March 2000 all denominations had been converted from paper to polymer. By the middle of this year approximately 110 million polymer notes have been issued, and it is now unusual to see a paper note in circulation.

For this presentation I would like to assess the performance of polymer notes compared with our expectations at the time they were introduced, with particular emphasis on the financial and operational benefits to the Reserve Bank.

Cost effectiveness

In changing to polymer notes we expected to make some cost savings. The longer life of polymer notes was projected to offset the higher production costs over a three year period. The transition costs were about $6 million.

We will save in excess of $7 million in issue cost over three years since introducing polymer notes in 1999. This is despite the fact that the number of notes in circulation has increased from 66 million in June 1998 to 106 million this year.

The cost advantages of the longer life of polymer notes can be illustrated by comparing the unit cost per note in circulation over time. This shows that the average unit cost of issuing paper bank notes between 1995 and 1999 was 6.6 cents per note compared with an average of around 1.5 cents since we introduced polymer notes.

Functionality

For the change from paper to polymer notes in New Zealand, we basically kept the same design, colour, size etc of the existing paper notes and had few problems during the transition.

The polymer notes were well received by people working in the banking and cash handling industry and there has been a very positive response to the new technology from the public.

Because we retained the same size notes, the country’s entire ATM network was converted to dispense the polymer notes in a very short period (about a month) as the change was only a software adjustment which was completed by branch staff in most banks.

Experience to date by one of the main ATM servicing companies, has seen an average decline of 50% in fault call-outs. With paper notes the average was approximately 5 call-outs per ATM each month. With polymer notes the number of call-outs is averaging just 2.5 per ATM per month.

The Bank’s own processing machines have coped with the change to polymer very well. A relatively simple and inexpensive software upgrade enabled our machines to identify paper notes for destruction and to band polymer notes ready for re-issue. The same ‘machine-readable’ covert features that were incorporated in the paper notes were successfully implanted into our polymer design.

Much had been made of the fact that the handling differences of polymer would cause difficulties for bank tellers, money handlers and the public. However, this did not eventuate, as people appeared to adapt to the slight differences very quickly.

A public opinion survey undertaken in November 2000 showed that, although more than half of the general public and retailers thought that polymer notes were more difficult to handle than paper, 77% of the public and 80% of retailers still gave positive ratings for ease of handling of the new notes.

Environmental considerations

Polymer notes are more environmentally friendly than paper notes because the polymer substrate is less polluting than paper and the waste polymer can be recycled into useful products rather than dumped.

Also, from the public point of view, the November 2000 survey revealed that 90% of the public and 100% of retailers consider that polymer notes are cleaner than paper.

This is important in New Zealand.

Implications for note processing

The introduction of polymer bank notes into New Zealand provided the catalyst for us to change our dominating role in the cash distribution cycle.

In New Zealand, like most countries, some commercial banks finish up at the end of the working day with excess stocks of cash and other banks with a deficiency of cash. In the past, excess cash has been deposited on demand at the Reserve Bank, where it is processed by machines and then re-issued, also on demand.

An examination of cash flows between the commercial banks and ourselves in 1999, revealed that the maximum net flow on any particular day, apart from around the peak retail periods of Christmas and Easter, was never greater than 10% of the total cash holdings of all the commercial banks. On a weekly basis the net flow was neutral.

In calendar year 1998 (when year 2000 contingencies or changes in note design did not influence cash flows), we received 540 million notes from the banks and issued 544 million to them. There were only 66 million notes in circulation in New Zealand at anytime during that year, thus, on average each note was processed by us over eight times.

Because we provided this convenient service to the banks there was little incentive on the cash industry to seek efficiencies. Some bank branches even returned to us and ordered the same denomination notes from us on the same working day, apparently regardless of the costs and risks of transportation. There was also little or no attempt by the banks to buy or sell notes among themselves.

During the year 2000 we re-defined our objectives. We believe that the Central Bank must ensure supply, maintain the quality and integrity of the notes, but we do not to be involved in the day to day movement of cash within the community.

In the past two years we have changed our role from a retail processor and distributor of notes to a mainly wholesale supplier. We provide an avenue for the return of unfit notes (including old paper notes) and facilitate the issue and return of notes at the seasonal peak times of Christmas and Easter. We have also provided some direct funding support to the banks while they adjust to our new procedures.

In 2001 calendar year we issued just 57 million notes and received 49 million as deposits. Apart from around the peak retail periods of Christmas and Easter, we only issue notes or allow repatriations one day a week.

By withdrawing from the retail distribution of cash we had identified three potential risks, as follows:
The supply of cash to the general public may be disrupted. This has not occurred, as the incentives on the commercial banks not to run out of cash are very strong.
There may be an increase in undetected counterfeits. This has not occurred, mainly because of the change to polymer. We discovered just 3 counterfeits out of 22 million fit notes returned to us post Christmas this year.
There may be a significant deterioration in quality of notes in circulation. This has also not occurred, again because of the change to polymer. For example, in the past 12 months we have destroyed just 5% of all $20 polymer notes in circulation, (compared with 52% per annum if they had been paper notes).

Cost savings have been very significant for the Bank. Our two branch offices have closed and we now operate only out of Wellington with reduced staffing levels.

Currency operating expenses (excluding new note & coin issues) remained reasonably constant at around $11 million per annum between 1993/94 and 1998/99, but reduced to $9.9 million in 1999/00, $8.2 million in 2000/01, $5.3 million in the current financial year to June 2002 and a budget projection of $3.6 million for 2002/03. This is a reduction of 68% since 1998/99.

If the reduced cost of note issue and the change to wholesale supplier are combined, the Bank’s unit cost per note in circulation has declined by nearly 70% from 20.7 cents per note in 1997/98 to 6.5 cents per note in the financial year to June 2002.

From the perspective of the commercial banks, the withdrawal of the Reserve Bank from the daily distribution cycle has resulted in higher cash balances for them as they come to grips with the change.

However, the banks have accepted that the management of cash should be a market-driven issue and not dictated by regulation. Initiatives by the banks are underway to improve the efficiency of cash distribution throughout the country.

Security

Counterfeiting of a Nation’s currency is always a potential concern for a Central Bank. In New Zealand there was a serious attempt to counterfeit our bank notes in 1997. Also, with the advent of desktop publishing software and colour printers, the ability to make reasonably good copies of bank notes is available to a much wider section of the population.

One of the prime motivations for the Bank’s change to polymer notes was to take advantage of new technology in the form of a clear area, known as a ‘window’. Our new bank notes have two clear windows, which are designed to be seen easily by the general public without the need to hold the note up to the light.

This is important, because in this country the holding of a note to the light is considered insulting in most circumstances.

The clear areas retain their effectiveness regardless of wear and tear on the note.

The polymer substrate itself also provides a barrier to forgery, as it is difficult to produce a copy on plastic. Attempts to date at counterfeiting the polymer note design in New Zealand have all been produced on ordinary paper. This has resulted in a very significant reduction in counterfeits detected by the processing machines at the Bank since the introduction of polymer notes.

In calendar year 2001, the number of detected forgeries totaled 114 compared with 501 in 2000, 758 in 1999, and 1,100 in 1997.

Also, most of the forgeries detected in recent times are the former paper note design. Attempts to counterfeit the polymer design have been negligible.

The New Zealand Police have also seen a decline in reported forgeries. The trends in the reporting of counterfeit notes to the Police follow very closely the trends experienced by the Bank.

Summary

For the Reserve Bank, the key advantages for New Zealand in issuing polymer notes are now apparent. Lower note issue costs, a significant reduction in forgeries and a very positive public reaction to the ‘cleaner’ note. The notes are also proving very efficient in transporting through all types of machines.

To date, the introduction of polymer notes has had no real negatives.

A final comment; the November 2000 public opinion survey showed that 74% of the general public and 90% of retailers prefer or strongly prefer polymer notes over paper…. and the Reserve Bank is saving money!