2008 New Currency Budget Action Requested Staff requests that the Board approve the proposed 2008 new currency budget. The proposed 2008 budget of $602.4 million is a $24.2 million, or 4.2 percent, increase over 2007 estimated expenses. The year-over-year budget changes reflect increases in the Bureau of Engraving and Printing (BEP) billing rates and in the number of new-design notes printed. The primary drivers of these changes are discussed below. 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 BEP. The BEP reviews the print order and establishes billing rates for new currency that Board staff uses 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 Reserve Banks for the Board's operating expenses. In July 2007, the director of RBOPS forwarded to the BEP a print order for 8.4 billion notes for fiscal year 2008. Because the BEP operates on a fiscal year, which began October 1, 2007, and ends September 30, 2008, 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 2008 budget with the 2007 budget and 2007 estimate.

a $1 and $2 notes do not include the security features that are in the Series-1996 and Series-2004 design notes; Series-1996 $100 notes include a watermark and color-shifting ink; Series-2004 $5 notes include two watermarks and additional security features; and Series-2004 $10, $20, and $50 notes include watermarks, additional security features, and a new color shifting ink. Return to table. b The Board did not order any $2 or $50 notes in fiscal year 2008 (which the director of RBOPS approved in July 2007) because Reserve Banks have sufficient inventories to meet estimated public demand for several years. Return to table. c The BEP is currently finalizing the Series-2004 $100 note design. The billing rate included in the table is an estimate. Return to table. d Volume weighted. Return to table.

As shown in table 2, the average billing rate increased ten percent from $63.30 in 2007 to $69.66 in 2008; this increase is influenced strongly by the estimated cost for the Series-2004 $100 note. Excluding these notes, the average billing rate remains largely unchanged at $63.62 per thousand notes primarily because the billing rate decreased for the $10 note and the larger proportion of low-cost $1 notes mostly offset the increases for the other denominations. The lower billing rate for the $10 note represents BEP production efficiencies resulting from its decision to print the $10 note solely at its Ft. Worth location, which is a newer facility with more efficient production equipment. The cost components responsible for the billing rate changes include currency production, production support, capital investment, and public education. Figure 1 shows the contribution of these factors to the total printing cost of currency. Currency Production Costs The cost of most currency production components remained stable from 2007 to 2008, increasing only 0.3 percent. Per note costs for paper, ink, and manufacturing decreased slightly from 2007 rates, but direct labor costs increased because of a three percent wage increase for BEP production employees. Manufacturing Support Costs The only material increase in the component costs for new currency is for manufacturing support. These costs increased nearly 13 percent from 2007 to 2008 because of utility cost increases and security enhancements. The BEP expects the prices for steam, natural gas, water, and electricity to increase significantly from 2007 rates. Also, the BEP plans to increase spending for information technology security and business continuity improvements. Capital Investment Costs BEP capital improvement costs represent about six percent of the 2008 currency printing budget and are unchanged from 2007. Beginning in 2006, the BEP implemented a ten- year plan to replace much of its production equipment that has fully depreciated and improve its infrastructure at both of its two facilities. During the first four years of the plan, the BEP will replace currency production equipment at the Washington, D.C., facility, including intaglio presses, overprinting equipment, and currency inspection equipment for some production lines.2 The new equipment will replace fully depreciated presses (at least 27 years old), provide more versatility for producing future security features, and increase production capacity per press.3 After the Washington, D.C., equipment upgrade is completed, the BEP will begin replacing its presses at the Ft. Worth facility. Board staff is working with the BEP to determine the optimal total number of press lines needed to meet expected long-term currency demand and continuity of operations requirements. In addition, the BEP plans to improve its infrastructure at the Washington D.C., facility over ten years at an estimated cost of $160 million; $34 million is included in the 2008 new currency billing rates. We expect significant changes in capital charges over the next ten years as both the facility and production equipment upgrades proceed. Public Education Costs The BEP awarded a $36 million contract to Burson-Marsteller following a competitive bidding process to develop a public education program in support of the Series-2004 $5 and $100 notes. Burson-Marsteller also had been awarded the previous contract in support of the Series-2004 $20, $50, and $10 notes. Of the $36 million contract, the BEP expensed approximately $12 million in 2007 and expects to spend another $12.5 million in 2008. We expect that the remainder of the $36 million will be spent in 2009. Number and Denomination Mix of Notes Printed We estimate a 5.6 percent decrease in the overall 2008 calendar-year BEP print order compared with the 2007 estimate.4 Table 3 illustrates the number of notes by denomination that the BEP will print in calendar year 2008 compared with the number of notes printed in 2007.

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

Denomination	2007 Estimated	2008 Budget	Percent change 2008B/2007E
$1	3,827.2	3,667.9	-4.2
$2	0.0	0.0	0.0
$5	1,132.8	1,369.6	20.9
$10	403.2	774.4	92.1
$20	2,099.2	820.1	-60.9
$50	224.0	0.0	-100.0
$100	1,113.6	1,672.1	50.2
Total	8,800.0	8,304.1	-5.6

In 2006, Board staff began planning for the large number of new-design $100 notes that the BEP will need to produce in fiscal year 2009 (we expect as many as 3.5 billion new $100 notes to replace the circulating current-design notes because the Reserve Banks do not plan to co-circulate the old- and new-design $100 notes), assuming that the Secretary of the Treasury approves the new design in mid-2008.5 We estimated the total expected demand for all denominations from 2007 through 2009 and allocated the print order as evenly as possible over the three-year period, recognizing that the production capacity at the BEP would be temporarily constrained by the large number of $100 notes required in 2009. Specifically, the fiscal year 2007 print order included part of the projected 2008 demand and, similarly, the 2008 print order includes part of the projected 2009 demand.6 Accordingly, the fiscal year 2007 print order reflected half of the projected 2008 demand for new $20 notes and all of the projected 2008 demand for $50 notes. In addition, the fiscal year 2008 print order includes a portion of the projected 2009 demand for new $5 notes and current-design $100 notes and all of the projected 2009 demand for new $10 notes. As a result, we expect that the print orders for fiscal years 2008 and 2009 will be similar in volume, but expect the budget for 2009 to be significantly higher because of the large share of $100 notes, which will be the most expensive of all denominations.7 The 2008 print budget is also higher than estimated 2007 expenses because it contains a larger share of more-expensive new-design notes than did the 2007 note order. Series-2004 notes comprise 46 percent of the 2008 note order, compared with 31 percent of the 2007 note order. This increase reflects the production of the Series-2004 $5 note (currently underway), which the Reserve Banks will begin issuing in early 2008, and the expected production of the Series-2004 $100 note. The proposed 2008 budget includes the printing of approximately 818 million Series-2004 $100 notes at the billing rate of $125 per thousand, amounting to $102 million. The increased cost reflects overall improvements to the security of the note, including new public features that incorporate years of research to enhance the public's ability to authenticate Federal Reserve notes. We anticipate the new design will incorporate two new public features. The Series-2004 $100 note cost estimate represents 17.7 percent of the proposed printing costs for the new currency budget and assumes the BEP will begin production in late 2008. The BEP is working to complete the final design; therefore, the actual timeline for production and the final billing rate remains uncertain at this time. Delays in the production of the Series-2004 $100 note beyond 2008 would reduce 2008 currency expenses. 2008 Currency Transportation The 2008 currency transportation budget is $15.9 million, which includes the costs of shipping new currency from the BEP to Reserve Banks ($10.8 million), of intra-System shipments of fit and unprocessed currency ($5.1 million), and of returning currency pallets to the BEP ($43 thousand). The 2008 budget for new currency shipments increased 23.2 percent from the 2007 estimate for two reasons. New contracted transportation rates will increase the budget 4.9 percent and expected shipments of new $100 notes will increase the budget by 18.2 percent. For the 2008 budget period, we plan to ship 9.4 billion notes, which include 1.1 billion from the BEP inventory.8 Of the 9.4 billion notes, 0.8 billion are new-design $100 notes, which is the most expensive denomination to ship because armored carriers reach insurance limits with smaller shipments of $100 notes compared with lower denominations. As a result, we need to schedule more shipments of $100 notes than for other denominations for the same volume of notes. If, however, there are any delays in the new-design $100 note schedule, we would expect to ship roughly the same number of new notes in 2008 as in 2007, and the overall budget increase would reflect only the 4.9 percent increase from the new transportation contracts. The 2008 budget for intra-System shipments increased 4.1 percent from the 2007 estimate and includes $613 thousand for shipments of unprocessed currency between Reserve Banks, a 20 percent increase from 2007 estimated expenses. This increase represents the additional shipments expected in 2008 to help manage System inventories during the major upgrade of currency processing machines. As Reserve Banks take machines out of production during the upgrade, the CPO will direct shipments for inventories of unprocessed currency from Reserve Banks that are unable to process to those that can. Counterfeit-Deterrence Research The 2008 budget for counterfeit-deterrence research is $3.7 million, which includes costs associated with 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 and includes 28 central banks. The Board's $3.7 million share of the 2008 CBCDG budget comprises 99 percent of the Federal Reserve's counterfeit-deterrence budget and is 9.9 percent more than the 2007 estimate.9 Most of this increase results from a revised member contribution schedule reflecting updated gross domestic product ratios. Treasury's Office of Compliance (OC)10 The 2008 budget to reimburse the U.S. Department of the Treasury for OC expenses is $4.3 million. The OC develops Reserve Bank standards for cancellation and destruction of unfit currency and for note accountability, and reviews Reserve Bank cash operations for compliance with its standards. As a public service, the OC also processes claims for the redemption of damaged or mutilated currency. The 5.9 percent OC budget increase results from the addition of five employees, an OC staff increase of 15 percent, in the spring of 2007 to reduce the time for processing claims from the public to redeem mutilated Federal Reserve notes by as much as 25 percent.

Data for Chart 1

YEAR	1990	1991	1992	1993	1994	1995	1996	1997	1998	1999	2000	2001	2002	2003	2004	2005	2006	2007E	2008B
Nominal Cost in millions of dollars	190	260	295	355	368	373	403	367	408	487	456	344	430	514	514	497	489	578	602
Real Cost (CPI Adjusted) in millions of dollars	190	249	275	321	324	320	336	299	327	382	346	254	312	365	356	333	317	365	369

Data for Chart 2

YEAR	1990	1991	1992	1993	1994	1995	1996	1997	1998	1999	2000	2001	2002	2003	2004	2005	2006	2007E	2008B
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	8.88	8.3	8.5	8.8	8.3
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	157.0	140.8	146.1	178.1	201.9

Data for Chart 3

YEAR	1990	1991	1992	1993	1994	1995	1996	1997	1998	1999	2000	2001	2002	2003	2004	2005	2006	2007E	2008B
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	8.89	8.29	8.46	8.8	8.3
Cost per 1000 notes	$26	$30	$36	$41	$38	$37	$40	$43	$47	$43	$47	$49	$50	$58	$56	$55.32	$55.74	$63.3	$69.66