Guest blog: David FaglemanEnryo Limited.

On the 23 June 2021 the new polymer £50 banknote, featuring Alan Turing, entered circulation, representing the final phase of UK currency modernisation, a project that started in 2015 with the polymer £5, followed by the 12-sided £1 coin (2016), the polymer £10 (2017) and polymer £20 (2020). With Scottish and Northern Irish note issuers also modernising the majority of their banknotes, it has been an exceptionally busy time for the cash and retail industry.

It is well known that cash is being used less for day-to-day spending as people increasingly use cards or mobile phones to make payments, or are shopping more online and less on the high street. As in many areas of life, digital is replacing analogue. 

Research supports this and reality confirms it. 

According to UK Finance, in 2020 cash use fell by 35% and accounted for just under a fifth (17%) of all payments in the UK. This is in comparison to debit cards (including contactless debit transactions) which accounted for 44% of all payments. In reality, the popularity of card use and ‘card only’ self-service machines, as well as the growth of online retail, points to a rise in digital payment popularity over the past decade. This trend has been exacerbated over the past year as many businesses have encouraged customers to pay with card, or have declined cash entirely. While this is partly influenced by misguided concerns about safety, in all likelihood it’s a measure by employers to reassure staff of their safety, combined with the introduction of perspex screens and signs reminding people to respect social distancing rules. 

While the direction of travel is undeniable, there is still life in cash. Indeed, while research conducted at Enryo suggests a much lower number of cash payments than UK Finance for 2020, we calculate a higher concentration of use: 22% of people (11.6 million) use cash more than once a week, with 2.6 million using it everyday. The pandemic, as it has done in so many areas of life, has accelerated the shift from cash to digital, but it has not led to the demise of cash. 

Understanding levels of cash use is a difficult task that requires consumer surveys, economic modelling and a bit of magic dust due to the fact that cash, by its very nature, does not leave a trail. However, UK Finance, who have been running their payments survey for over a decade, calculate that since 2010 cash transactions have fallen from 56% to 17% in 2020.  

What’s strange about cash is that while the volume of transactions has been falling, the amount in circulation has been rising. Part of this is understandable as there needs to be a greater supply of cash than demand to ensure there’s enough available at all times (i.e. to ensure ATMs and tills don’t run dry). In addition, there’s plenty of UK sterling all over the world in bureaux de change awaiting purchase, it’s an attractive option as a safe store of value for UK and non-UK residents and some if it, well, it’s just lost. There’s also its use in the shadow economy, however you want to define it, which must account for some cash use, although it’s exceptionally hard to prove.

The combined total of all of the above is what constitutes the ‘notes in circulation’ or ‘cash in circulation’ figure. It includes much more than the cash used as a transactional method of payment for day-to-day items. 

It’s important to point this out as there has been a lot of attention around cash in circulation in wake of the pandemic as, according to the Bank of England, notes in circulation increased by £10bn in 2020-2021 to reach a grand total of £80bn. 

Common sense suggests that this can’t be all that it seems; especially when one considers that the amount in circulation today is double the amount in 2008, while over the same time period not only have cash transactions have fallen, there has also been a 13% reduction in the total number of ATMs and the total number of bank and building society branches has fallen by over 28%, significantly reducing the amount of cash needed in the supply chain for people to access it. We also know from the Bank’s own data that card payments nosedived in 2020 due to a lack of economic activity, a direct response to the lockdown measures, and LINK’s data shows that ATM withdrawals fell by 30%. Throw in a pandemic that accelerated the move away from cash as method payment and we begin to understand why the disparity between cash use and cash in circulation is known as the ‘cash conundrum’. 

In an effort to explain this, the Bank of England told the House of Commons Public Accounts Committee in October 2020 that the jump in cash in circulation over the past year is probably due to a combination of people hoarding cash and sole traders, such as window cleaners and gardeners, being unable to bank their cash due to branches being closed. In the lead up to the launch of the £50 note, Sarah John, the Chief Cashier, explained the rise as a result of people taking cash out for ‘contingency purposes, so if they had to self-isolate they’d be able to pay neighbours for food and so on’ and the notes being retained as a store of value and not being paid into accounts, possibly ‘because normally people would take notes to their bank, but because of long queues they’ve decided not to’. The Chief Executive of De La Rue, the printer of the banknotes, told the Financial Times recently, ‘it seems counter-intuitive in Covid [but] when there are worldwide crises, demand for cash goes up’. 

I’m not too sure that this behaviour accounts for a 10% rise in total notes in circulation. Research commissioned by Enryo in June 2021 showed that only 17% of people said they were keeping more cash on them than normal during the pandemic. Going by the Bank’s logic, this means that around 9 million UK adults withdrew an additional £1,070 each. Even if this theory were true, it does not account for the doubling of notes in circulation that we’ve seen since 2008.

So what’s going on?

Well, lucky for us the Bank of England publishes data on banknotes, which David Hensley and I have been looking at to try and get to the bottom of this conundrum. 

NOTE – The Bank of England is, as the issuer of the majority of UK banknotes, the keeper of data relating to how many banknotes are in circulation, and as banknotes significantly outnumber coins, they are the de facto source to understand how much cash is out there. (Her Majesty’s Treasury is responsible for coins via The Royal Mint and the Bank of England’s statistics include the relatively low amount of Scottish and Northern Irish banknotes that are issued by commercial banks). 

It is our view that the approach to understanding the amount of cash in circulation is wrong, leading to a misleading and unhelpful view of how cash is used today. What we need is a more accurate number that represents the value of banknotes that could potentially be used as a transactional method of payment. This would provide a figure that’s much more useful when discussing cash use and one that’s more in tune with how other methods of payments are discussed.

Getting this right is important because the future of cash is fragile. Millions depend on cash as their predominant form of payment and many more use it regularly to spend, save and feel safe in an increasingly digital world. Recent research from Age UK shows that 2.4 million people aged 65 and over rely on cash in their daily lives. It’s unhelpful for those reporting on the future of cash, involved in providing cash infrastructure or campaigning for access to cash to have a misleading figure promoted by the central bank. 

How is the figure so wrong?

Banknotes flow in and out of circulation. When a banknotes is unfit for purpose, or it’s replaced by a new series, it’s taken out of circulation and destroyed by the central bank. The recent move to polymer provides a good example of this: the paper notes have been taken out of circulation and new polymer notes introduced. However, as the Bank of England promises ‘to pay the bearer on demand’ the sum of their banknote, it can always be redeemed for face value, despite it no longer holding legal tender status. This means that if you have an early 1900s white Bank of England £5 banknote you can take it to Threadneedle Street and exchange it for a new one of the same value but much smaller and made from polymer. (Sidenote: if you do have an old banknote, you’d be better selling it to a collector.)

The old paper fiver, as it has not been returned to the Bank, is included in the number for notes in circulation as it’s technically still in circulation. This is true of all old series banknotes that have not returned to the Bank. We have no idea how much they account for, but as they can no longer be used as a method of payment, they shouldn’t be included in a calculation used to understand the performance of cash.

It’s unlikely that old, and now oversized, banknotes account for the growth we are trying to understand. What can account for it however is the paper 5, 10 and 20 banknotes that were replaced by polymer but remain in circulation, which the Bank estimates account for more than £24.5bn. As the 5 and 10 are longer legal tender, they also shouldn’t be included, and the same will apply for paper 20s and 50s when they lose their legal status after September 2022

Alarm bells should now be ringing.

If the £80bn includes banknotes that are no longer accepted, and notes are held overseas, then they can’t really be included in the figure used to determine demand for cash. Further, if we look at the Bank’s data we can see that whilst the underlying notes in circulation continues to grow, the rate it grows at has been steadily falling for several years from 148% in 2013 to 114% in 2020. This effectively acknowledges the growth in card payments and the decline in cash infrastructure (less ATMs and less branches). Also, the average value of banknotes in circulation has been falling for the past three years from 19 in 2018 to 17.62 in 2021. 

Looking at the value of banknotes in circulation over the past seven years, we can see a notable year-on-year increase in £50 notes of £1.4bn in 2016 followed by £2.4bn in 2017, possibly caused by the reduction in value of pound sterling following Brexit, fueling demand for £50 banknotes as a store of value from overseas buyers. In addition, there was a whopping rise in £20 notes to the tune of £7.6bn over the past year, which is likely caused by the introduction of the new polymer 20, which is the most popular banknote by far, and the inability of the paper 20s to comeback to cash centres due to the pandemic shutting down retail.

Based on this, we should expect a further rise in total notes in circulation when the figures are next released, given that the polymer 50 is now in the public domain.

If we look at the number of banknotes destroyed vs new notes entering the wholesale market (that being the first step to a note entering circulation) we see a very different picture.

Over the past seven years the Bank of England has destroyed more £5 (£-0.7bn) and £20 (£-0.4bn) notes than it’s issued but the reverse is true to £10 (£1.4bn) and £50 (£7.5bn) notes. 

Considering that the average person never sees a £50 note, never mind uses them for day-to-day shopping, if we remove them from the equation then as a nation we have been destroying more banknotes than we are printing since 2013/2014. (If you disagree with this and use, or know of someone that regularly used £50 notes for day-to-day transactions, please let me know as the available research fails to corroborate your or their existence.)

Using this methodology leads to the conclusion that the underlying net growth in transactional cash over the past seven years is around £0.2bn. On the surface this seems to be a much more appropriate number given the changes in banking and payment preferences during this time. 

With the average value and growth rate falling, as well as the Bank’s admission that not all the notes included in their total figue are actually circulating, we need a new approach.

What’s clear from our investigation is that showcasing a cumulative total of banknotes only tells part of the story, one that is viewed through rose tinted glasses. There needs to be a new methodology to understand demand for cash and the amount of cash that is available for day-to-day transactions. While a number for ‘total cash’ can still exist, in order to be constructive and help the challenges facing the future of the cash infrastructure, the Bank of England should cease using their current number and look to develop a figure for ‘transactional cash’.

This couldn’t be more pressing. Everyday cash transactions fall as the ease and convenience presented by digital takes preference for day-to-day spending, causing the challenge of providing a cost effective cash infrastructure to become even more difficult to solve. With this ‘cash conundrum’ occurring with the US dollar and euro (to name but a few) the Bank of England has the opportunity to create and export a new way of calculating cash in the UK. 

The currency has been modernised, now let’s improve our understanding of it.