If you’re like most people living paycheck to paycheck, you have a simple problem at the end of the month – not enough cash. There’s nothing to be embarrassed about here – it’s a common problem that is faced by a large number of families as the economic recovery struggles on.
But if you’re an S&P 500 company, you may have a different problem – too much cash. Not precisely too much cash on hand, that is, since that’s never a problem. You may have something like cash sitting around somewhere in the world that you have trouble bringing home to make use of the way you want to.
Therein lies the problem with this economy – not that there isn’t enough to go around, but that it isn’t going around.
The amount of cash on hand held by non-financial US corporations has been discussed by many people for a long time. It’s fueled by many things, but the main problem remains that companies do not feel that they have something in hand that is worth turning that cash into an investment. The money is being hoarded and not released onto the world at large.
We discussed this previously with respect to the large financial institutions that have been allowed to deposit their money with the Federal Reserve and how that has turned everything upside down. The problem, however, is much larger than that.
We have to first start with corporate profits, or where the cash comes from. They are up 25% overall since 2006, the last really good year before the last official recession:
Those profits are, in normal times, re-invested in either the company’s main operations or in some kind of expansion into another field that is expected to be more profitable than the company itself. We have discussed this problem before here as well – companies are not confident enough to re-invest in themselves and their own expansion. Thus the recovery is slow.
But what’s happening is even worse than that. Companies have no confidence in anything and are sitting on their cash as idle money. US corporate cash holdings in non-financial companies are approaching $2T. The trend is hardly a new one, either, having started as early as 1990 during the last solid economic boom. There was a time when some of the excess profits went into real estate holdings and the like, the root of the bubble, but even that has stopped lately.
This is what is so dangerous about the “liquidity trap” formed by very low interest rates and very high savings. It is impossible for the Federal Reserve, or anyone, to inject money into the economy to get things rolling because we are already awash with far more than we need – at least at the large corporation level. There are several good guesses as to why this is happening:
Research is expensive and requires a stable company: As we move to a higher tech economy, the need for more long-term research requires a larger pool of cash on hand to weather any storm. This is the main force credited with the change around 1990 in a paper by the St Louis Federal Reserve. It is definitely true that high R&D expenses carry with them a lot of risk, making the rest of the company’s operations necessarily more risk adverse to balance it out. Self insurance of a kind is also critical when carrying that kind of risk, too.
Globalism and high tax rates: Another cause cited in the same paper is that much of the cash is overseas and thus away from US corporate taxes. Repatriating them to the US in some form would make them taxable at the marginal rate of 35%, the highest in the world. GE recently announced that they would pay a dividend and buy back stock by repatriating $90B from abroad – triggering a staggering $4B tax bill. Reading the tea leaves properly you can see why the need to flash their cash around at such a high cost is hardly a sign of any confidence in the operations of GE.
Money is plain cheap: Another reason is that with debt as cheap as it is capital expenses can be paid for with cheap bonds now while holding onto cash and increasing the company’s overall assets. This may not make sense on the face of it, but increasing debt is another trend in the same companies. The theory is that money is so cheap you might as well borrow as much as you can now and expand your credit, even as you build up cash at the same time.
No matter what, there is little doubt that a general rise in interest rates will hardly choke off large corporations which are now immune to money markets. The solution for the US economy may well be to lower corporate tax rates, at least at the margin, or at least make it harder to shield money overseas. But the trend to higher cash has been growing for a long time and will not go away soon.
The growing pile of corporate cash is a sign that the economy remains out of balance in some fundamental way. It’s worth watching along with the total corporate profits. Both will probably turn down when there is a genuine change in the economy. This may sound illogical, but when companies start re-investing in themselves they will draw down their reserves and increase their expenses. That is the trend we can expect to see sometime by 2017 if there is going to be a new economy and a genuine new bull market.