Cash Holdings and Business Conditions
43 Pages Posted: 25 Oct 2004
Date Written: February 2005
We investigate the relation between business conditions and corporate liquidity decisions by US firms. We find strong evidence that financially constrained firms hold more cash during recessions and that business conditions are significant to constrained firms' cash decisions. In contrast, we find weak evidence that financially unconstrained firms adjust cash holdings according to the business cycle. This asymmetric behavior is more pronounced for changes in the short-term interest rate. Moreover, we find that firms increase the level of liquidity during periods of tighter credit conditions. Our findings support both the precautionary motive for holding cash and the pecking order theory.
Keywords: Cash holdings, Liquidity, Business conditions
JEL Classification: G3, G32, G39
Suggested Citation: Suggested Citation