What to make of the excess savings (aka boatloads of cash) that remain on US corporate balance sheets?
In trying to answer this question, economist Rebecca Wilder has used data from the Fed’s latest flow of funds report to update the following graph, originally taken from JP Morgan research:
The total corporate financial balance (TCFB) remains well above historical levels. And although it’s been falling in the past year, it seems the decline is coming entirely from the financial sector:
That is, non-financials continue to spend less on capital and (especially) labour than their balance sheets would suggest they could — choosing instead to keep their retained earnings in cash.
Wilder cites IMF and OECD research for what traditionally accounts for such a rise in corporate savings, and among the problems now is the leverage overhang that remains from the credit binge of the mid-2000s (emphasis ours):
It’s very unlikely that the excess corporate saving will fall anytime soon, as non-financial business leverage is high just as household leverage is high. Total non-financial business debt peaked in 2009 Q1 at 79.5% of GDP and is now trending downward, hitting 74.9% in 2010 Q2.
If history is any guide, then the “excessive” borrowing spanning 2005-2008 will take some time to repair. Spanning 2002 to 2004, the non-financial business sector dropped leverage 2.5% to 64%. If this 2-year period of de-leveraging indicates an “equilibrium” level of leverage, then non-financial businesses are likely to run consecutive financial surpluses (excess saving) in order to reduce debt levels by another 11 percentage points of GDP for a decade more.
The goal of policy, then, should be to speed up this process:
The idea is to pull forward the deleveraging process by “helping” households and firms lower debt burden via direct liquidity transfers (lower taxes or subsidies, for example). Only then will healthy private-sector growth resume.
And that was indeed one of the rationales behind Barack Obama’s recent don’t-call-it-a-stimulus proposal, though getting it passed in an election season won’t be easy.
But monetary policy can also help along the process, and a bit of inflation would also move the deleveraging process forward. All eyes, then, on the FOMC.
Related links:
Evaluating the “excess” in the US corporate financial balance – News N Economics
FOMC preview – Money Supply
Staying on target – FT Alphaville