Putting a New Price on Cold Hard Cash

By Bridget Aymar

Mili Mehrotra—Assistant Professor of Supply Chain and Operations

Supply Chain and Operations Assistant Professor Mili Mehrotra is studying how banks will respond to new pressure from the Federal Reserve to sort cash in house, and more importantly, how much it’s willing to pay for the service.

Despite the convenience offered by electronic payments and credit and debit cards, cash is still a common means for U.S. consumers to pay for daily purchases. And with more than $1 trillion in notes of U.S. currency circulating today, meeting the demand for cash has proven expensive for the Federal Reserve. To curb the cost of transporting, sorting, bundling, and redistributing cash to banks, the Federal Reserve instituted policies to encourage institutions to sort the notes themselves. Given these regulations, businesses are now offering on-site sorting services. Mehrotra is examining this new service to help determine the pricing sweet spot for these providers to remain competitive while turning a profit.

The journey of the dollar

Although banks collect cash from deposits and distribute cash for withdrawals, the notes travel a long distance between the teller window and the ATM. When customers deposit cash, the bank turns the pile of money over to the Federal Reserve for sorting, which weeds out the worn and damaged notes. The Fed then destroys the currency unfit for circulation and sorts the viable notes into banded bundles. These bills are finally shipped back to the same banks that use them to stock ATMs.

Sorting currency on site

To allay the expense of sorting truckloads of cash, only to transport it back to the banks, the Federal Reserve enacted a fee to encourage banks to reuse cash deposited by customers. But the banks lacked the infrastructure to prepare the raw cash for redistribution. Realizing a new business opportunity, the same secure-logistics providers (SLPs) that transport cash from banks to the Fed introduced on-site cash sorting for banks, called fit-sorting.

“This fit-sorting process is not the core competency of the banks,” says Mehrotra. “So to avoid a penalty from the Fed, banks might outsource the fit-sorting to SLPs.”

Turning a profit sorting money

In a recent study, Mehrotra examined how SLPs can devise a pricing model for cash-sorting services. After analyzing figures from SLPs as well as banks, she concluded there’s no magic solution. To implement fit-sorting services, SLPs must make significant investments to acquire sorting machines, secure facilities, and new employees.

Using mathematical optimization models, Mehrotra provides guidance for making these logistics and pricing decisions jointly. But she cautions that this complex operations problem could be further complicated as the industry matures. As new competitors enter the market, SLPs should revisit their strategy to retain customers.