oversight

U.S. Currency: Printing of Flawed Redesigned $50 Notes

Published by the Government Accountability Office on 1997-10-01.

Below is a raw (and likely hideous) rendition of the original report. (PDF)

                  United States General Accounting Office

GAO               Testimony
                  Before the Subcommittee on Domestic and International
                  Monetary Policy, Committee on Banking and Financial
                  Services, House of Representatives


For Release
on Delivery
Expected at
                  U.S. CURRENCY
1:00 p.m. EDT
Wednesday
October 1, 1997
                  Printing of Flawed
                  Redesigned $50 Notes
                  Statement of Bernard L. Ungar, Director
                  Government Business Operations Issues
                  General Government Division




GAO/T-GGD-98-8
Statement

U.S. Currency: Printing of Flawed
Redesigned $50 Notes

                  Mr. Chairman and Members of the Subcommittee:

                  I am pleased to be here today to address issues you raised about the
                  Department of the Treasury’s recent production of flawed, newly
                  redesigned $50 notes. This flaw was reported in the media during the week
                  of September 22, 1997. As you know, the newly redesigned $50 bill is part
                  of a broader effort by the Treasury and the Federal Reserve to redesign the
                  nation’s currency to deter counterfeiting.

                  Today, I will address each of the specific questions you raised:

              •   How many flawed notes were produced?
              •   How did the production of flawed notes come about?
              •   What actions are planned about the flawed notes, and what are the costs
                  associated with these notes?
              •   Have any lessons been learned from this experience that could be applied
                  to the future production of redesigned currency?

                  To address the questions you raised, we interviewed officials and reviewed
                  relevant documents at the Department of the Treasury, including the
                  Bureau of Engraving and Printing (BEP), which designs and produces the
                  nation’s currency; the Secret Service, which conducts investigations of
                  counterfeiting activities; and the Federal Reserve, which distributes U. S.
                  currency and ensures its physical integrity. We also performed a limited
                  inspection of the newly designed $50 notes stored at BEP in Washington,
                  D.C., and at Federal Reserve banks in Philadelphia, Pennsylvania; and
                  Richmond, Virginia. These two banks were among 16 Federal Reserve
                  banks that received the flawed notes. We chose them because of their
                  proximity to Washington, D.C. We also interviewed officials at these two
                  banks. Other than the limited inspections we performed, we did not
                  independently verify the information provided by BEP, the Secret Service,
                  or the Federal Reserve. We did our work between September 26, 1997, and
                  October 1, 1997.


                  The introduction of significantly redesigned currency began in
Background        March 1996, with the introduction into circulation of the newly designed
                  $100 note. Redesigned lower denomination notes were expected to be
                  introduced into circulation at subsequent 9- to 12-month intervals, but the
                  introduction of the $50 note has been delayed because of efforts to make
                  the denomination easier to read by the visually impaired. The note is now
                  expected to be introduced later this month.



                  Page 1                                                        GAO/T-GGD-98-8
                       Statement
                       U.S. Currency: Printing of Flawed
                       Redesigned $50 Notes




                       The redesigned currency includes several new security features. Some of
                       these features are overt; that is, they are designed to be recognized by the
                       public. The other features are covert; that is, they are intended to be used
                       by the banking system. One of the overt security features on the $50 note
                       is concentric fine lines printed in the oval shape that is behind Ulysses S.
                       Grant’s portrait on the front of the note. During the initial production of
                       the newly designed $50 notes, BEP detected flaws in some of the notes,
                       specifically a gap, or white space, between some of the concentric lines
                       surrounding Grant’s portrait.


                       Neither BEP nor the Federal Reserve know specifically how many flawed
How Many Flawed        notes are among the 217.6 million redesigned notes produced before
Notes Were             September 8, 1997. Although both BEP and the Federal Reserve have done
Produced?              some inspections to identify flawed notes, neither has done a complete
                       count or a statistically projectable sample. BEP said it is not prepared to
                       estimate the number of flawed notes without more thorough sampling,
                       which it plans to do. In Philadelphia, Federal Reserve officials looked at
                       200 of the $50 notes and estimated that 50 to 60 percent were flawed.

                       On September 30, 1997, we and Federal Reserve officials jointly reviewed
                       judgmentally selected samples of newly redesigned $50 notes that had
                       been shipped to the Philadelphia and Richmond Federal Reserve banks.
                       We jointly determined that 56 percent of the 1,200 notes we reviewed that
                       were produced before September 8, 1997, and were shipped to
                       Philadelphia did not meet the Federal Reserve’s standards for circulation
                       concerning the clarity of the concentric lines surrounding President
                       Grant’s portrait. At Richmond, we jointly inspected 1,000 $50 notes
                       produced before September 8, 1997, and found that 45 percent contained
                       similar flaws. We also jointly inspected 1,000 $50 notes at Richmond that
                       were printed after September 7, 1997, and found that 2 percent were
                       flawed. On September 30, 1997, we independently inspected 1,664 $50
                       notes at BEP headquarters that were printed after September 7, 1997, and
                       found that 12 percent were flawed. A better estimate of the number of
                       flawed notes at BEP and the Federal Reserve banks cannot be made until
                       more rigorous and scientific sampling procedures are used for the note
                       inspections.


                       BEP began producing the new $50 note in June 1997. BEP officials said they
How Did the            noted problems in the initial production runs with the concentric fine lines
Production of Flawed   that form the background surrounding the portrait of Ulysses S. Grant.
Notes Come About?      Specifically, they noticed gaps in the lines, which were caused by one or


                       Page 2                                                         GAO/T-GGD-98-8
Statement
U.S. Currency: Printing of Flawed
Redesigned $50 Notes




more lines not printing completely. These gaps were inconsistently
distributed throughout the notes, thus making them difficult to correct.
BEP viewed the problem as a start-up issue to be expected with production
of a completely new note design. BEP officials told us that although they
viewed the new notes as acceptable for distribution to the Federal Reserve
and for circulation, they believed that the quality of the concentric lines
needed to be improved. Accordingly, they made a number of changes in
their production, including adjustments to printing presses, changes in the
ink, and changes to the printing plates used to create the face of the new
note. For example, BEP made modifications to the printing plates by
cutting small horizontal grooves into the concentric lines, called dams,
that permit ink to be deposited more successfully on the paper. According
to BEP, these changes reduced, but did not eliminate the concentric line
gaps in some of the $50 notes.

In September, Federal Reserve and BEP officials, at a regularly scheduled
meeting, discussed the importance of note quality. Immediately after that
meeting, BEP invited the Federal Reserve to view some of the new $50
notes that it had produced to get its customer’s input on the quality of the
notes. According to Federal Reserve officials, this was the first time they
were informed of the problems with the concentric lines surrounding
President Grant’s portrait. BEP officials said they did not tell the Federal
Reserve about the problem earlier because they believed the notes were of
acceptable quality and that the production problems were typical of those
that could be expected in producing a newly designed note.

According to Federal Reserve and BEP officials, the printing problems with
the concentric lines did not appear in test notes that BEP supplied to the
Federal Reserve prior to full scale production of the notes. BEP officials
stated that printing difficulties often appear only in the production
process. They said that test currency is produced under more carefully
controlled conditions and is not produced at the same press speeds and
volumes.

When Federal Reserve officials inspected the production notes in early
September 1997, they considered the quality of the concentric lines in
many of the notes to be unacceptable for circulation, in part because of
the public education campaign, which specifically identified the
concentric line’s clarity as a security feature that should be examined
when determining if a note was genuine. For example, educational
brochures on the note produced by Treasury and the Federal Reserve,
which are now available, advise the public to look at the very fine



Page 3                                                        GAO/T-GGD-98-8
Statement
U.S. Currency: Printing of Flawed
Redesigned $50 Notes




concentric lines behind the portrait to be certain that they are clear. In
mid-September, Federal Reserve officials met with BEP, U.S. Secret
Service, and other Treasury representatives who agreed with the Federal
Reserve’s concerns and also agreed on quality standards for determining
note acceptability. These standards were then programmed into BEP’s
automated currency inspection equipment.

BEP and the Federal Reserve refer to notes produced before the dams were
cut as phase I notes, and those produced after the dams were cut as phase
II notes. They refer to notes produced after BEP’s currency inspection
devices were recalibrated as phase III notes. BEP and Federal Reserve
officials believe phase II notes are of higher quality than phase I notes, and
that the quality of phase III notes is higher than that of both phase I and II
notes. Beginning in June 1997, BEP produced a total of 160 million phase I
notes, of which about 59.5 million were shipped to 16 Federal Reserve
banks and 100.5 million are stored at BEP headquarters. Beginning around
August 1, 1997, BEP produced 57.6 million phase II notes, all of which are
stored at BEP. Production of phase III notes began around September 8,
1997, and as of September 24, 1997, BEP reported having shipped about
11.7 million of the phase III notes to Federal Reserve banks and storing
about 4.3 million of the phase III $50 notes in its inventory.

Secret Service, Federal Reserve, and BEP officials said the flaws in the
notes did not increase the risk of counterfeiting or further delay the notes’
introduction. According to a Secret Service official, issuing the flawed
notes would not make them more susceptible to counterfeiting or impede
counterfeiting detection. However, the official noted that the flaw in the
concentric lines could result in increased public questions about the note’s
authenticity. Federal Reserve officials voiced similar concerns,
particularly in regard to foreign countries where U.S. currency is often
more closely scrutinized. Much of their concern stemmed from the
emphasis given to the concentric lines in the promotional material being
disseminated on the new $50 note. Federal Reserve and BEP officials stated
that the flawed notes would not cause a further delay in the issuance of
the new note to the public because the $50 note represents a relatively
small portion of BEP’s total production, and it does not take long for it to
make enough notes to meet the public demand.




Page 4                                                         GAO/T-GGD-98-8
                         Statement
                         U.S. Currency: Printing of Flawed
                         Redesigned $50 Notes




                         As of September 29, 1997, Federal Reserve officials told us that they had
What Actions Are         not decided what to do with the flawed notes but expect to decide by the
Planned About the        end of the year. According to Federal Reserve officials, there is no need to
Flawed Notes, and        rush to make a decision because the newly designed $50 notes are not
                         scheduled to be released for circulation until October 27, 1997, and they
What Are the Costs       believe that they will have enough of the good notes to put into
Associated With          circulation. The Federal Reserve has identified three options that it is
                         considering:
These Notes?
                     •   destroy all 217.6 million phase I and phase II $50 notes and replace them;
                     •   inspect the 217.6 million phase I and phase II $50 notes and destroy and
                         replace only those notes that are found to be flawed; or
                     •   circulate the 217.6 million phase I and phase II $50 notes after the higher
                         quality new notes have been in circulation for a few years.

                         Before decisions can be made on which option to select, Federal Reserve
                         officials described several steps that they planned to take. First, they said
                         they would determine costs of developing and installing sensors on their
                         currency processing equipment to inspect the phase I and phase II $50
                         notes. The Federal Reserve said that although its equipment—normally
                         used to inspect recirculating notes—has the capability to check certain
                         aspects of individual notes, it does not have the sensors needed to detect
                         the gaps in the background of the portrait. According to BEP, its equipment
                         can detect the gaps in the background of the portrait but only in its normal
                         production format—that is, in sheets of 32 notes. Since all the phase I and
                         phase II notes have been cut into individual notes, BEP’s detection
                         equipment cannot be used for such an inspection. Thus, sensors that have
                         the capability to detect such gaps would need to be developed by a vendor
                         and then purchased by the Federal Reserve.

                         The second planned step would be to determine how much it would cost
                         to identify the acceptable notes and reprint only those that were
                         unacceptable. The third planned step would entail the Federal Reserve and
                         BEP conducting scientific samples of the entire inventory to identify what
                         portion is acceptable and unacceptable. Finally, the fourth step would be
                         to use the data obtained in the first three steps to determine the most cost
                         beneficial option between destroying and replacing all the notes or
                         identifying and destroying and replacing only the flawed notes. According
                         to Federal Reserve officials, they do not believe that there is a high
                         probability that they would choose the third option of distributing all
                         217.6 million phase I and phase II notes at a later time.




                         Page 5                                                         GAO/T-GGD-98-8
                        Statement
                        U.S. Currency: Printing of Flawed
                        Redesigned $50 Notes




                        The Federal Reserve has not estimated the complete costs of reproducing
                        the flawed $50 notes. As an example to provide perspective on the costs of
                        the options under consideration, according to BEP and Federal Reserve
                        officials, if the Federal Reserve were to decide to destroy all 217.6 million
                        of the $50 notes and replace them, it would cost approximately
                        $7.2 million for printing replacement notes plus an additional $360,000 to
                        destroy the notes at the Federal Reserve banks and BEP and to ship the
                        replacement notes. This amount is about $1 million less than the
                        $8.7 million the Federal Reserve initially paid for the phase I and phase II
                        $50 notes because the replacement production costs do not include
                        charges for capital equipment and fixed costs that were already included
                        in the charges for the original production runs.

                        The Federal Reserve was not able to estimate the costs associated with
                        option two because the costs of obtaining and installing the sensor
                        equipment are not known at this time; nor does it yet know what
                        proportion of the 217.6 million notes are acceptable or what the costs of
                        inspecting them would be. According to the Federal Reserve, the costs
                        associated with the third option would probably be minimal and would be
                        mostly storage costs. All costs incurred by the Federal Reserve due to the
                        replacement of the flawed notes would result in a reduction in the amount
                        of money the Federal Reserve returns to the Department of the Treasury
                        after it subtracts its operating expenses from its revenues.1


                        Mr. Chairman, while our review of this matter has not been extensive, we
Have Any Lessons        have made two observations that should prove useful in the future
Been Learned From       production of redesigned currency. These observations relate to (1) the
This Experience That    Federal Reserve’s and other stakeholder involvement in inspecting BEP
                        production and limiting the number of notes produced until production
Could Be Applied to     problems are resolved and (2) resolving the problems with printing fine
the Future Production   concentric lines before new denominations are produced.
of Redesigned           The experience gained from the redesigned $50 note showed that it would
Currency?               be useful to have the Federal Reserve, Secret Service, and other Treasury
                        officials involved early in the production process to inspect the quality of
                        note production. In this instance, although the Federal Reserve inspected
                        test notes, it did not inspect production run notes until a substantial
                        number of notes had been produced and shipped. According to the
                        Federal Reserve, it has not historically been involved in inspecting

                        1
                         For additional information on the Federal Reserve’s operations and returns of revenue to the
                        Treasury, see Federal Reserve System: Current and Future Challenges Require Systemwide Attention,
                        GAO/GGD-96-128, June 1996.



                        Page 6                                                                          GAO/T-GGD-98-8
Statement
U.S. Currency: Printing of Flawed
Redesigned $50 Notes




currency production, primarily because BEP has generally produced high
quality currency; the currency designs have not significantly changed for
many years; and BEP experienced no major problems with the printing of
the newly designed $100 note last year. Federal Reserve officials said that
they are now reassessing their approach to monitoring the quality of
currency production.

Both BEP and Federal Reserve officials said that they agree that early
inspection of BEP production would be worthwhile after the experience
with the production of the newly designed $50 note, but said they have not
yet agreed on the specifics of the Federal Reserve’s early involvement.
Once BEP and the Federal Reserve reach agreement on the details, we
believe it would be helpful for them to formalize their agreement in
writing. In addition, BEP and the Federal Reserve may wish to include
Secret Service and other Treasury officials in their discussions and
agreements. Based on the problems encountered with the newly designed
$50 note, the BEP and Federal Reserve might also want to limit the
production of newly designed currency until all production problems are
resolved and to include such a limitation in their written agreement.

Our second observation deals with the resolution of problems in printing
concentric fine lines surrounding the portrait on denominations lower
than the $50 note, which the Treasury Department and the Federal
Reserve plan to introduce at 9- to 12- month intervals following the
introduction of the $50 note. According to BEP, the fine concentric line
design on the face of the new $50 note poses particularly difficult
challenges to print clearly, and the fine concentric lines will be somewhat
different for each denomination because the configuration of the portraits
will vary. For example, BEP officials said that printing the fine concentric
lines on the newly designed $100 note, which has a portrait of Benjamin
Franklin with long hair taking up a large area of the oval surrounding
Franklin’s portrait, has not been as difficult as printing the lines on the
newly designed $50 note, which has a portrait of Ulysses S. Grant with
relatively shorter hair taking up a smaller area of the surrounding oval. It
may prove helpful for BEP to explore whether design changes would lessen
the chances of production problems for future denominations.

In this regard, we noted that while BEP has improved the quality of the new
$50 notes after making production modifications to the engraved plates
and adjusting the tolerances of its inspection equipment, BEP officials
acknowledged that some imperfect notes still are produced and are likely
to continue to be produced, although at a much lower frequency. In our



Page 7                                                        GAO/T-GGD-98-8
                      Statement
                      U.S. Currency: Printing of Flawed
                      Redesigned $50 Notes




                      very limited observations of $50 note production this week, we observed
                      some imperfect concentric line backgrounds, but it is important to note
                      that our sampling was not statistically representative and we cannot make
                      any projections on the overall rate of imperfection.


                      In view of the experience with the early production of the redesigned $50
Recommendations       note, we recommend that the Secretary of the Treasury and the Board of
                      Governors of the Federal Reserve:

                  •   Formalize an agreement to have Federal Reserve, BEP, Secret Service, and
                      other relevant Treasury officials involved early in the currency production
                      process for future redesigned notes to inspect production and agree on an
                      acceptable level of quality;
                  •   Limit initial production of newly designed currency to the number that
                      would be necessary to provide reasonable assurance that all production
                      problems are resolved, and include such a limitation in their written
                      agreement; and
                  •   Explore the feasibility of design changes that might lessen the potential for
                      production problems for future redesigned denominations.


                      Mr. Chairman, that concludes my prepared statement and I will be happy
                      to answer any questions that the Subcommittee may have.




(240275)              Page 8                                                        GAO/T-GGD-98-8
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