We examine the determinants and implications of holdings of cash and marketable" securities by publicly traded U.S. firms in the 1971-1994 period. Firms with strong growth" opportunities and riskier cash flows hold relatively high ratios of cash to total assets. Firms" that have the greatest access to the capital markets (e.g. large firms and those with credit" ratings) tend to hold lower ratios of cash to total assets. These results are consistent with the" view that firms hold liquid assets to ensure that they will be able to keep investing when cash" flow is too low relative to planned investment and when outside funds are expensive. The" short run impact of excess cash on capital expenditures, acquisition spending and payouts to" shareholders is small. The main reason that firms experience large changes in excess cash is" the occurrence of operating losses. There is no evidence that risk management and cash" holdings are substitutes.

The Determinants and Implications of Corporate Cash Holdings

The East Asian miracle: Economic growth and public policy: By the World Bank. (New York: Oxford University Press for the World Bank, 1993. 389 pp. $19.95, paper.)

The theory of precautionary saving is shown in this paper to be isomorphic to the Arrow-Pratt theory of risk aversion, making possible the application of a large body of knowledge about risk aversion to precautionary saving, and more generally, to the theory of optimal choice under risk In particular, a measure of the strength of precautionary saving motive analogous to the Arrow-Pratt measure of risk aversion is used to establish a number of new propositions about precautionary saving, and to give a new interpretation of the Oreze-Modigliani substitution effect

Precautionary Saving in the Small and in the Large

Few areas of monetary economics have been studied as extensively as the transmission mechanism. The literature on this topic has evolved substantially over the years, following the waxing and waning of conceptual frameworks and the changing characteristics of the financial system. In this paper, taking as a starting point a brief overview of the extant work on the interaction between capital regulation, the business cycle and the transmission mechanism, we offer some broader reflections on the characteristics of the transmission mechanism in light of the evolution of the financial system. We argue that insufficient attention has so far been paid to the link between monetary policy and the perception and pricing of risk by economic agents - what might be termed the "risk-taking channel" of monetary policy. We develop the concept, compare it with current views of the transmission mechanism, explore its mutually reinforcing link with "liquidity" and analyse its interaction with monetary policy reaction functions. We argue that changes in the financial system and prudential regulation may have increased the importance of the risk-taking channel and that prevailing macroeconomic paradigms and associated models are not well suited to capturing it, thereby also reducing their effectiveness as guides to monetary policy.

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Capital Regulation, Risk-Taking and Monetary Policy: A Missing Link in the Transmission Mechanism?

13 EADERS of Mr. Bertrand Russell's philosophical £v works know that one of his pupils before the outbreak of the war, an Austrian, Mr. Ludwig Wittgenstein, caused him to change his views in some important particulars. Curiosity can now be satisfied. The “Tractatus Logico-Philosophicus “which Mr. Ogden has included in his new library of philosophy is a remarkable and strikingly original work. It is published in German and English in parallel pages. It is difficult to appreciate the reason for this, seeing that the author is evidently familiar with our language and has himself carefully revised the proofs of the translation. Also we should have liked to have the Tractatus without Mr. Russell's Introduction, not, we hasten to add, on account of any fault or shortcoming in that introduction, which is highly appreciative and in part a defence of himself, in part explanatory of the author, but for the reason that good wine needs no bush and that Mr. Russell's bush has the unfortunate effect of dulling the palate instead of whetting the appetite. In his penultimate sentence Mr. Russell says; “To have constructed a theory of logic which is not at any point obviously wrong is to have achieved a work of extraordinary difficulty and importance.” We agree, but how uninspiring when compared with Mr. Wittgenstein's own statement of aim: “What can be said at all can be said clearly, and whereof one cannot speak, thereof one must be silent.” Tractatus Logico-Philosophicus. By Ludwig Wittgenstein. (International Library of Psychology, Philosophy and Scientific Method.) Pp. 189. (London: Kegan Paul and Co., Ltd.; New York: Harcourt, Brace and Co., Inc., 1922.) 10s. 6d. net.

Tractatus Logico-Philosophicus

Using an unbalanced panel of accounting data from 1997 to 2004 and controlling for individual bank costs and risk, we find capital buffers of the banks in the EU15 have a significant negative co-movement with the cycle. For banks in the accession countries there is significant positive co-movement. Capital buffers of commercial and savings banks, and of large banks, exhibit negative co-movement. Those of co-operative and smaller banks exhibit positive co-movement. Speeds of adjustment are fairly slow. We interpret these results and discuss policy implications, noting that negative co-movement of capital buffers will exacerbate the pro-cyclical impact of Basel II.

/pdf/the-cyclical-behaviour-of-european-bank-capital-buffers-3uy7dxbugs.pdf

The cyclical behaviour of European bank capital buffers

https://www.snb.ch/n/mmr/reference/working_paper_2009_09/source/working_paper_2009_09.n.pdf

Bank capital buffer and risk adjustment decisions

Recent articles have attempted to restore the use of a simple measure of the money supply as an indicator of future price levels, P[star], and to reestablish a causal link from money to prices. In this paper we argue that the P[star] approach is flawed. It is certainly more complex than traditional monetarist approaches but the fundamental questions of causality are in no way either affected or resolved. We argue that the P[star] relationship does not have a causal link with prices but rather the causality runs from prices to money. We also find that there is some causality running from money to real income, so that monetary conditions do seem to have some predictive power for future levels of activity. Copyright 1994 by Royal Economic Society.

The Relevance of P-Star Analysis to UK Monetary Policy

We analyse the incentive impact of bank capital regulation in a model with endogenous capital, assuming regulators randomly audit banks and require undercapitalised banks either to bear the fixed cost of new issue or to liquidate. Forward looking banks with sufficient franchise value maintain a buffer of capital in excess of the regulatory minimum. In our dynamic setting we show, amongst other results: that incentives for risk taking depend upon this buffer of free capital, not the total level; and that the regulatory capital requirement has no long run effect on bank risk-taking.

https://papers.ssrn.com/sol3/Delivery.cfm?abstractid=299319

Bank Capital Regulation and Incentives for Risk-Taking 1

Basel III will force banks to shift their business model from liability management, in which business decisions are made about asset volumes, with the financing found in short term wholesale markets as necessary, to asset management, in which asset volumes are constrained by the availability of funding. We find, contrary to what many have argued, that once there is a full adjustment, the costs of credit to low risk bank borrowers – the majority of customers – will be only moderately affected; but that there will a reduction in availability and higher cost at the riskier end of the credit spectrum. Alternative arrangements are therefore needed for financing of risky exposures if a fall in economic growth is to be avoided. In this context securitisation (broadly defined to include all forms of bank sponsored collateralised instrument, including covered bonds) will be of central importance. Re-establishing securitisation markets on a sounder footing appears essential, in order both to prevent a renewed credit contraction and to help prevent riskier borrowers from being cut off from credit. The shifts in bank balance sheets will also require substantial portfolio adjustments amongst long term institutional investors, from short term to long term debt and from debt to equity. The associated adjustment of both market prices and required returns can be accommodated but poses a substantial co-ordination problem and could take a long time. Finally the new liquidity rules could create new unintended systemic risks. In particular the proposed definition of eligible liquid assets is dangerously over-concentrated on government debt. The definition of should be broadened to give banks more scope to hold liquidity in the form of commercial claims; and central banks should clarify in what circumstances they will provide emergency liquidity assistance.

Alistair Milne

Papers

The cyclical behaviour of European bank capital buffers

Bank capital buffer and risk adjustment decisions

The Relevance of P-Star Analysis to UK Monetary Policy

Bank Capital Regulation and Incentives for Risk-Taking 1

Basel III: Is the Cure Worse than the Disease?