KARACHI: Out-of-bank settlements have been increasing due to the tax on banking transactions causing a sharp decline in the deposit mobilisation, according to the latest annual report released by the State Bank of Pakistan (SBP).

Meanwhile, the phenomenon has resulted in record-high growth in currency circulation in 2015-16.

The deposit mobilisation remained weak during the fiscal year in spite of acceleration in the pace of money creation in the economy, said the report. “Instead of deposits, it seems that public preference has shifted in favour of currency,” said the report.

It reveals that the year closed with the highest ever annual growth in the currency in circulation, with the highest currency-to-deposit ratio since 2002-03.

This means less money is now coming back to the banking system, although the growth rate of money supply has increased in the economy. “This in turn suggests that more economic transactions now involve out-of-bank settlements,” the SBP report said.

While the continued vibrancy in the informal economy partly explains this trend, the SBP believes thatthe general public has now become more inclined towards using hard cash even for the settlement of formal transactions.

The central bank believes that one reason for the lower preference for bank deposits is the imposition of a withholding tax of 0.4pc on non-cash banking transactions – cross-cheques, demand drafts, pay orders etc – undertaken by non-filers.

The business community has apprehensions about this measure and has repeatedly requested its withdrawal.

“It is important to recall here that the business-sector deposits, which constitute nearly a third of total (non-government) bank deposits, are used primarily to facilitate their voluminous transactions. Therefore, a tax on these transactions over and above usual business levies (like income tax, sales tax, FED etc) is surely an added burden,” said the SBP report.

The business community had protested across the country over the withholding tax, but the finance minister refused to withdraw it.

The business community started making payments through dollars or prize bonds of high denominations to avoid bank transactions. They used bank lockers to stash away their cash instead of depositing it in accounts. The SBP report suggests that the finance minister’s decision to impose the withholding tax on banking transactions was wrong.

“Hence, it is not surprising to see growth in business-sector deposits dropping quite sharply in 2015-16,” said the SBP report. In the scheme of things, this can further offset SBP’s measures to deepen the penetration of the financial industry, the report added.

Growth in demand deposits declined from 13.7pc in 2014-15 to 10.8pc in 2015-16. Time deposits posted net withdrawals (4.3pc) during 2015-16 compared to 7pc growth in the preceding year.

Currency growth in 2015-16 stood at 30.5pc. Similar growth in currency circulation was last seen in 1972-73 in the aftermath of the Dhaka fall. In 2015-16, the government initially imposed a withholding tax of 0.6pc on all non-cash banking transactions undertaken by non-filers. The rate was later lowered to 0.4pc.

Growth in deposits held by businesses has been in decline 2012-13 onwards. However, the trend must be viewed in the context of overall growth in money supply. In 2012-13 and 2013-14, the SBP pursued a tight monetary stance due to pressures emanating from the external sector as well as inflation expectations.

In 2014-15, monetary expansion or M2 growth inched up to reach 13.2pc while corporate deposits grew 9.4pc. In 2015-16, corporate deposits grew only 1.2pc against 13.7pc growth in M2.

Published in Dawn, November 20th, 2016