The Behavior and Determinants of the Currency Deposit Ratio in Pakistan

The objective of this note was to investigate the factors behind significant increase in currency deposits ratio since FY09. Before investigating the factors, the note attempts to explain the balance sheet mechanism of withdrawal of currency from the banking system and the economic costs of increase in currency in circulation. In perspective of economic costs, the negative relationship between currency and total private sector deposits confirms that an increase in currency depletes deposits, which in turn hurts economic growth by restricting supply of loanable funds with the banks. From a theoretical standpoint, when we attempt to investigate determinants of currency deposits ratio through graphical analysis, inflation, government budgetary borrowing, industrial production index, investment in National Saving Schemes, remittances inflow, and wheat procurement are found to be the prominent factors behind increasing currency deposits ratio. The note also includes the econometric estimation of these factors