It’s Time to Get Business Spending

In March 2012, The Economist reported that UK corporate surpluses reached more than £700 billion last year, amounting to almost 6% of GDP. The United States told a similar story with the 1,100 non-financial corporations rated by Moody’s showing cash balances of over £1.24 trillion (almost 10% of US GDP)… and in Europe, a group of 30 larger cap non-financial corporations (as at June 2011) were sat on over $872 billion (around 7.2% of European Union GDP).

There are a constellation of reasons why firms are hoarding their cash, but a few key ones are:

1.  Economic Sentiment:
   There is no doubt that firms of all sizes are viewing the economy as being very uncertain and potentially precarious.  With such sentiment being widespread, firms are much less likely to invest in assets (which may decrease in value) or projects (which may fall victim to economic volatility).  The poor perceived outlook on consumer, corporate and institutional spending (across most global territories) also makes firms considerably less likely to engage in expansion strategies.
2. Tax & Policy:
   Entrepreneurs and CEO’s are genuinely worried that firms are going to face years of increased taxation to pay for the unprecedented economic stimulus.  Alongside this one must also factor in the ‘risk value‘ of cash.  Businesses operating in a riskier environment will inevitably want a higher return on the capital they deploy.  In most developed countries however, the marginal increases in taxation have yielded a disproportionate ‘flight to safety‘ where firms end up hoarding their cash balances against forced redistribution. A less discussed but equally significant phenomenon has been a gradual erosion of faith in central governments and their policies. A well functioning economy requires that entrepreneurs, firms and other stakeholders place trust in their political leadership to not only support them- but be consistent in their approach.  One business advisor I spoke to said he finds it very hard now to fathom, “what on earth they [referring to government] will do next…“.
3. A Lack of Investment Alternatives:
   Private sector cash balances are not a new phenomenon within the economy. The new aspect is behaviour.  These cash balances were often plugged into a wide variety of financial instruments (such as equities, funds and more) which typically gave near cash-like risk profiles with a reasonable return.  Such instruments are now lacking as even previously robust classes such as sovereign debt and large cap equities now carry more risk than most corporate treasury managers would like to hold without a corresponding return.
4. Hidden Deficits:
   The profligate spending of the past 25 years has also left a tremendous amount of firms worried about structural deficits which may be created through gaps in pension fund obligations and even gaps in the value of hard assets.  Many larger firms in particular are holding cash-balances on reserve to cope with these eventualities which could easily prove fatal otherwise.  To put this in perspective, the US Private Sector is estimated to be running a pension deficit of over $420 billion. Continue reading →