Streetwise Professor

February 11, 2010

Real Option Theory at Work

Filed under: Economics,Politics — The Professor @ 10:03 pm

Bloomberg reports that S&P 500 companies are sitting on a huge cash horde of $1.19 trillion, and cutting back on capital expenditures:

A majority of companies in the Standard & Poor’s 500 stock index increased cash to a combined $1.18 trillion while simultaneously reducing spending, keeping a jobs recovery on hold.

Caterpillar Inc., Eaton Corp., Walgreen Co. and General Electric Co. are among 256 companies that ended last quarter with $518 billion more cash than a year earlier after cutting capital spending by 43 percent. Economists say the dearth of investment is keeping the jobless rate at about 10 percent as the U.S. emerges from its worst recession since the 1930s.

“It’s not clear we are going to see the type of growth following this recession that we’ve seen in previous recessions,” Sandy Cutler, Eaton’s chief executive officer, said in an interview yesterday. That view “is leading people to be cautious as to their rate of reinvestment, and right in parallel with that, in terms of hiring additional employees.”

One factor contributing to this reluctance to invest is almost certainly the huge political risk and the associated uncertainty.  Health care, the budget, the instability in the Eurozone, uncertainty about China (e.g., its threats to dump US securities, hissy-fitting about Taiwan), and on and on make this about the most uncertain period in memory.  Far better to wait, keep your powder dry, and wait to see how things shake out before making irreversible investments.  If for only for this reason, Obama and Congress should back off from their grandiose schemes.  Not that that’s likely to happen, which means that corporations are likely to continue to sit on cash, rather than spend it.

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1 Comment »

  1. Just wait until the mid-term election starts drawing closer and the conservatives start talking about the federal debt. There is simply no way we are going to be able to start attacking that time bomb without increasing federal revenues and that most likely means a major overhaul of the tax code. If it doesn’t happen in 2010, it will most certainly be a hot topic in 2012. When businesses know the long term after tax returns of a major project are highly uncertain, the best course of action would be to delay the project until more information is obtained. At the first hint of a tax code overhaul we will see businesses sit on their hands and that will unquestionaby slow economic growth.

    Comment by Charles — February 12, 2010 @ 10:30 am

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