BLESSING OR CURSE - FOREIGN AND UNDERGROUND DEMAND FOR EURO NOTES

Developing countries may hold as much as 25-30% of the $1.3 trillion O ECD currency supply. Although dollar holdings appear to exceed DM hold ings by a factor of four, the advent of the euro may change this balan ce. Indeed, by issuing large-denomination notes of 100, 200 and 500, t he European Central Bank appears to be well poised to challenge the do minance of the ubiquitous US $100 note. However, large-denomination no tes are also extremely popular in the OECD underground economy, which appears to hold at least 50% of the currency supply. As a result, the seigniorage revenues obtained by issuing large-denomination notes may be an accounting illusion, substantially or fully offset by losses due to increased tax evasion. Hence, the new European Central Bank may wi sh to consider policies that discourage underground use of currency, e ven at the expense of losing out on foreign demand.