Well, I’m still sifting through my thoughts trying to exactly understand what was behind the corporate “dead money” debate last week. After a speech to the Canadian Auto Workers, Bank of Canada Governor Mark Carney drew attention to the rising amounts of cash in the bank accounts of Canadian firms and commented to the effect that Canadian firms were not doing enough to drive economic growth and create new jobs. According to the August 22nd Globe and Mail:
"The level of caution could be viewed as excessive," he said. Referring to corporate managers, he added, "Their job is to put money to work and if they can't think of what to do with it, they should give it back to their shareholders."
All of this would indicate a concern that the economy is slowing down and doing worse than expected. Yet, apparently Canada’s GDP growth in the second quarter of 2012 was 1.8 percent on an annualized basis and was driven largely by business investment and rising inventories suggesting that business is indeed spending some of its cash even as those reserves continue to rise. According to the Statistics Canada report, business investment rose at the fastest pace since the second quarter of 2011. The annualized change in real GDP though not stellar has been stable since the fourth quarter of 2011.
So what may be going on here? While their comments were probably blown out of proportion given the traditional late summer slowdown in news, one has to wonder what drove these two to venture into this territory? I suspect the concern is not so much the pile of cash that firms are accumulating but the message that it sends. If firms are showing an excessive level of caution, what exactly is it that they are worried about and why might this message rattle Carney and Flaherty so much?
Do Canadian firms expect a big jump in interest rates after the November American election and are therefore taking the precaution of having more than ample cash reserves to deal with their own financial needs and reduce future borrowing costs? A jump in interest rates is also concern for the economy as a whole given the high mortgage and consumer debt levels that Flaherty and Carney have drawn attention to. However, this is nothing new. There has been talk of interest rates eventually rising for years now.
Do Canadian firms expect things to get much worse in the world economy? The economic recovery has been very slow and interest rates are so low that little more can be done on that front to stimulate the economy. As for fiscal stimulus, well most governments are engaged in the opposite right now. Yet everyone knows the economy is not doing as well as it could and that the world economy is slowing down again. Come the end of August, not only will Europeans be coming back from their vacations, but so will the Euro Crisis. Again, all of this is not new information.
Or do Canadian firms expect that if there is another global financial crisis in the autumn, things are going to be very bad? Are they concerned that central banks – including our own - may not be able to keep credit flowing. This also seems unlikely but even a whiff of this sentiment may erode confidence in the financial sector hence prompting a strong moral suasion response from the central bank and federal government. It is telling that a story in the August 28th Toronto Star featured the following line:
“In a private meeting with executives after the controversy blew up, Carney reportedly said his remarks were taken out of context by the media. Also, he is making the point that if economic conditions deteriorate, the central bank will keep credit flowing, so there is no need for companies to hoard cash.”
Canadian firms building large cash reserves may have been interpreted as a sign of reduced confidence by business in the ability of the central bank and federal government to deal with the economy. By extension, this would include confidence in the ability to deal with what may be the next big financial and economic blowup simmering in Europe. Such a development may have indeed spurred the assertive tag team pronouncements on ‘dead money’ given the central importance of business confidence when it comes to economic activity. On the other hand, if there is such a concern about confidence in the economy, why draw attention to it in such a red flag manner? I'm still sifting.