ECB deep freeze on €500-note risks German cold shoulder

Bloomberg

When European Central Bank policy makers discuss the fate of the €500-note this week, they may want to consider the case of Fabio Rizzi.
After the local politician in the Italian region of Lombardy was arrested on corruption charges in February, police found more than €17,000 including €500- and €200-bank notes stashed in his home, according to the arrest warrant. The case strengthens the image already present in policy circles that large-denomination notes are used only by those up to no good.
The ECB may decide as soon as Wednesday to start phasing the €500 out, even though it faces suspicion in German-speaking countries that by doing so officials are trying to abolish cash altogether.
“The whole debate has a certain taste to it. The argument that it is used in the shadow economy won’t cut it, as you can easily find substitutes,” said Stefan Schneider, chief international economist at Deutsche Bank AG in Frankfurt.
“And in Germany, at a time when trust in the ECB is at record lows, it will certainly be seen as a further step in the direction of the removal of cash.”
Reasons for the unease over changes to the composition of cash in Germany, Austria and Luxembourg range from a simple preference for an anonymous payment method to the fear that if cash is abolished altogether, central bankers can drive interest rates on bank deposits further below zero.
Without adequate denominations of physical money, it’s more difficult for the public to withdraw their savings in defense.
That said, most Europeans would hardly notice if the bank note were to disappear.
The €500 is rarely used in daily transactions; in Spain it has even been nicknamed “Bin Laden” for its elusiveness. Europol’s director has called it the “ currency of choice” for criminal and terrorist networks.
Social Consequences
Bank of Italy data show that €500 notes circulate in the country’s economy only infrequently. In 2015, almost €7.5 billion worth of them were returned to the central bank by lenders, companies or individuals, while only €65 million were issued.
The controversy over the Rizzi case “is just the umpteenth example of the risks attached to large notes,” according to Giuseppe Ascoli, partner at Rome-based tax advisory firm CMS. The €500 notes “are often used to finance terrorism, illegal activity and money laundering. This has also social consequences,” he said.
ECB Executive Board member Benoit Coeure said in February that the central bank is “ actively considering” whether to phase out the €500-bill, even as other officials look for stronger evidence from authorities that it actually abets crime. At the same time, officials are also considering the costs of such a move. The current thinking at ECB headquarters in Frankfurt is that the easiest way to phase out the €500 would be to simply stop producing it, and let wear and tear do the rest.

Psychological Debate
This would also imply omitting the €500 from the new line of euro banknotes that is gradually being introduced by the ECB. An ECB spokesman confirmed that the matter is on the agenda for discussion at the May 4 non-monetary policy meeting.
The problem with this option is that it would require stepping up production for €50, €100, and €200 notes in relatively a short time, the person said, while banknote production schedules are usually set years in advance. By value, about €300 billion of the €1.1 trillion in cash currently in circulation is made up of €500 banknotes.
The total cost, including transportation, could be as high as 5€00 million to €600 million, Austrian central bank official Kurt Pribil said on Thursday.
At a time when only one in three Germans say they have trust in the ECB and its policies have come under direct attack from politicians, President Mario Draghi may need to communicate carefully the reasoning behind such a decision, or risk opening a new front with the public of the euro area’s largest economy. “We risk running into a general debate about abolishing cash — that debate isn’t justified, but it’s there,” ECB Governing Council member Ewald Nowotny said. “I have learnt that central-bank policy must be 50 percent psychology. I believe that for those psychological reasons we should be very careful, and my personal view is that we shouldn’t aim for phasing out the €500 bill.”