The rise in corporate cash positions has attracted considerable attention in the past few years. Large cash balances have become linked in many observers’ minds to an overall atmosphere of corporate caution, with firms reluctant to spend against a backdrop of elevated uncertainty. The growing pool of cash, though, owes more to historically strong corporate profitability than to a broader hesitation to invest on companies’ part. Indeed, business investment spending has grown fairly strongly during the current expansion, and corporate cash has been on the rise for the better part of two decades. With profit margins still high, companies would remain awash in cash even if capital spending were to pick up sharply. Share buyback activity thus seems likely to become increasingly prominent. Meanwhile, swings in corporate cash management techniques may exercise significant effects on short-term interest rates.
Various ways exist to measure cash on corporate balance sheets. One simple method relies on the Federal Reserve Board’s quarterly flow of funds data (which is limited to U.S.-domiciled companies). Adding up cashlike assets (basically, bank deposits and money market fund holdings) of the nonfinancial corporate sector from this source produces a figure of nearly $1.4 trillion as of September 30, 2012 (see Chart 1). That number, a record high, equates to almost 9 percent of U.S. gross domestic product . The cash stockpile has not risen enormously over the past year but is roughly double the amount from ten years earlier.
Chart 1: Cash on nonfinancial corporate balance sheets (USD bn)
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Source: Federal Reserve Board, JPMAM; data as of second quarter, 2012 |
Chart 2: Business investment in GDP (quarter prior to recession start = 100, sa)
![]() Chart 1
Source: JPMSI, JPMAM; data as of third quarter, 2012. Dates in legend show beginning of each data period. |
The rise in corporate profitability, which came at the expense of the so-called labor share of income, remains poorly understood, but almost certainly owes a great deal to globalization. Profit margins began to soar just at the moment when a fresh, large and inexpensive labor source — in China, the former Soviet bloc, and other newly open developing countries — entered the global trade system. As firms took advantage of this workforce by relocating production, margins climbed and cash flow significantly increased. Although global growth did accelerate somewhat during this period, companies faced no need to invest all of their newly large share of national income. Instead, they began accumulating cash.
The profit-margin origin of the corporate cash stockpile carries several implications.
Chart 3: Business investment as share of GDP (%)
![]() Chart 1
Source: JPMSI, JPMAM; data as of third quarter, 2012 |
Second, reduced uncertainty — for example, via resolution of the fiscal cliff problem in the U.S. and through ongoing European Central Bank support for markets in the euro area — can go only so far in boosting growth. Business capital spending softened in the second half of 2012, and reacceleration would provide a nice fillip to growth early this year. Investment has not, however, displayed extraordinary weakness during the expansion as a whole, and elevated corporate cash balances do not signal a potential boom from this source that might shift the economy onto a sustainably higher growth path.
Chart 4: Corporate profits as share of national income (%)
![]() Chart 1
Source: JPMSI, JPMAM; data as of third quarter, 2012. |
Fourth, evolving corporate cash management practices may affect relative valuations at the short end of fixed-income yield curves. The possible expiration at year-end of unlimited deposit guarantees for so-called transactions accounts, widely used by firms, would throw corporate cash managers into a new environment. Money-market funds will likely absorb a significant share of any resulting outflows from checking accounts, but some corporate treasurers may dip a toe into other, higher-yielding (but presumably still short-duration) fixed-income assets. Institutional investors will need to keep an eye on changing corporate cash management habits as they form their own expectations for interest rates at the short end of yield curves.