It seems likely that developing country citizens will find the euro an extremely attractive alternative to the dollar given the EU’s size and location. And if the ECB proves to be as inflation-averse as its designers intend, the euro inflation rate should be at least as low as the dollar’s.

What’s more, the ECB plans to issue the euro in large denominations, including 100, 200 and 500 euro notes. Given the popularity of large notes in the world underground economy, this constitutes an aggressive step towards seizing a larger share of the currency market for the euro, according to Kenneth Rogoff of Princeton University, writing in Economic Policy. Is this a game the EU should want to play? And is it one where the United States should seek to preserve its dominance?

There seems little question that underground demand greatly inflates OECD central bank balance sheets, and that without it, seigniorage revenues would be dramatically lower. But, Rogoff argues, the revenue benefits from catering to the currency needs of the underground economy may well be an accounting illusion. When lost tax revenues are taken into account, the net benefits to the government’s balance sheets are likely to be quite small and perhaps negative.

If removing the convenience of large notes means that even a small extra percentage of underground activities will be reported, the revenue gains could easily outweigh any seigniorage costs. In addition, there are potential savings on law and tax enforcement costs. The best way to reduce underground currency usage is not entirely clear but, in Rogoff’s view, eliminating large notes (or placing reporting requirements on them) is a good place to start.

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