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There has been much written about the accumulation of cash on corporate balance sheets. A recent Federal Reserve data release indicated that the balances have risen to an all time record of more than $2 trillion. This growth in cash balances is at least, in part, understandable given the concerns in board rooms and executive offices about our current volatile economic and political times, but is this accumulation excessive? If so, are there reasons for it beyond simple uncertainty?

Given political and practical constraints on fiscal policy, a focus on any other material sources of readily available capital that could stimulate the economy, such as idle corporate cash, is not surprising. In reading the many articles written on this subject however, it appears to me no one really has a complete understanding of what this cash accumulation means. Both sides of the political spectrum have seized upon this to spin tales of deception and greed, some claiming that the accumulation is an apparition, largely a byproduct of increased corporate borrowing while others see it as an organized conspiracy by Corporate America against the Obama administration. Some blame it all on US corporate tax policy (which is no doubt a factor in overseas deposits)...all in all there is a high level of both misinformation and disinformation.

In all this entropy however, I ran across an interesting press release from Treasury Strategies, a Chicago-based corporate treasury advisory firm. In this release, Anthony J. Carfang, a partner of Treasury Strategies is quoted:

Historically, corporations have not been comfortable holding so much cash. However, changes such as unlimited federal deposit insurance for noninterest bearing accounts are making treasurers much more comfortable holding onto large sums of cash -- particularly when placed in the U.S. banking system. (emphasis added)

Unlimited FDIC insurance on non-interest-bearing demand deposit accounts? I did some further research and found that, indeed, this was a requirement of the so-called Dodd - Frank bill - section 343. As the Treasury Strategies press release stated, it required the FDIC to extend unlimited insurance on non-interest bearing demand deposit accounts from the time period of Jan. 1, 2011, until Dec. 31, 2012. This new program replaced the previous "TAG" program that the FDIC implemented at the height of the financial crisis in 2008, which also provided unlimited insurance on these accounts but expired during 2010. See the details on the current program.

At the height of the liquidity crisis in the Fall of 2008, it is understandable why the government and its affiliated regulators would have temporarily put in place this unlimited insurance provision. Confidence in the entire banking system was virtually non-existent then. However, confidence has largely returned to normal for US banks, so why would a program such as this be extended with the financial markets now largely stabilized from the crisis? I discussed this with a contact I have in a treasury department of a large multinational corporation. The person believed first and foremost that the provision was reinstituted to continue to protect the integrity of the payments system, the backbone of how money flows in our economy. Substantial sums of money move back and forth among the various financial institutions every day, often landing on some bank's balance sheet overnight. Any breech of confidence (as happened in the Fall of 2008) in this process can cause this system to, once again seize up. In addition, there is still concern about the short-term commercial paper market within corporate treasury departments, a market frequently used by large corporations to fund their short-term cash needs. As a result, many corporations prefer to keep additional cash on hand deposited in a very safe place as it would need to be available with certainty in a crisis. But admittedly, my contact believes, notwithstanding these reasons, there are still many corporations that are holding cash balances well in excess of what would be needed for all reasonable purposes -- emergency or not.

I then accessed the B.102 Federal Reserve statistical release (an aggregation of the balance sheets of non-farm, non-financial corporate businesses) to verify the increase in the level of cash that corporations are holding in aggregate and, in particular, to see if any data in the statistics might reflect an effect from unlimited insurance on non-interest-bearing accounts. While the data are a bit difficult to work with, it appears that, indeed, overall non-financial corporate cash has increased by 22% in just eighteen months from $1.759 trillion on Dec. 31, 2009, to $2.126 trillion by June 30, 2011. However, even more dramatically, within this amount, "checkable deposits and currency" increased by a whopping 197% in the same eighteen months from $168 billion to $502 billion, in the process going from 9.6% to 23.6% of the total of all non-financial corporate cash. While I can't say that the unlimited insurance provision is the only reason for this dramatic increase, it would seem highly likely that it is a significant contributing factor.

So why is this a problem? There are at least three possible unintended consequences of this unlimited insurance provision that crossed my mind:

  1. At a time when corporations should be encouraged to be investing, hiring, and/or, returning more money to their shareholders, the unlimited insurance gives those corporations holding excessive cash an additional safety valve. Do we really want corporations to be "comfortable holding onto large sums of cash" as the press release stated or do we want that money working for the economy and/or for shareholders?
  2. Unlimited insurance disproportionately benefits mega-depositors, the most obvious of which are large corporations. Yes, individuals and small businesses can open up unlimited insurance accounts but neither have anywhere near the same amount of cash as, say, an Apple (NASDAQ:AAPL) or Microsoft (NASDAQ:MSFT) to take advantage of the opportunity. Is this appropriate?
  3. Most frighteningly, the taxpayers are now insuring a much larger deposit base likely resulting from this provision. In a chart on the FDIC website, the line "Insured Deposits $" identifies the historical levels of insured deposits. After fairly steady and modest increases through 2007, insured deposits have exploded, increasing by $1.11 trillion in twenty-four months from $4.29 trillion on Dec. 31, 2007, to $5.40 trillion on Dec. 31, 2009, then another $1.14 trillion to $6.54 trillion over the next eighteen months to June 30, 2011, (the increase from Dec. 31,2009, to June 30, 2011, is not fully explained by the above Fed data leaving one to wonder if other large depositors, perhaps pension funds, sovereigns and even banks themselves, are also taking advantage of this unlimited insurance). Which banks are holding all these newly insured deposits? In theory, any FDIC-insured depository institution, large or small, can accept these accounts. The provision completely removes the responsibility of a mega-depositor to prudently place money with stronger financial institutions effectively transferring the risk of loss from the mega-depositor to the taxpayer. How do you feel about guaranteeing some of Apple's cash stash?

While more cynical explanations cannot be ruled out given the way Dodd - Frank was created, this unlimited insurance provision was likely a tailored, lobbied arrangement among large corporations, banks, regulators and the federal government which, in their collective wisdom, believed they were doing the right thing to "protect the system." However, would the integrity of the banking system really be "at risk" today without the unlimited insurance? Would a more appropriate policy have been perhaps, say a $10,000,000 limit on the insurance or, if no limit, at least a substantially higher insurance fee for amounts above such a level (* see note below) to discourage larger deposits? Should the taxpayers not be directly compensated for assuming this additional risk? Why would the government, intended or not, give those large corporations that are holding excessive cash balances another incentive not to invest in productive activities and putting the taxpayer at risk in the process? I am sure the political pundits would have wildly varying explanations....the rest of us can only hope this unlimited insurance is not extended at the end of 2012, and that there are no major bank defaults between now and then.

Note: The FDIC has increased insurance fees on deposits as required by Dodd - Frank but reserves, while increasing, remain at a greatly reduced percentage of insured deposits compared with "normal" pre-crisis levels, leaving the taxpayers massively exposed at the current time. Anecdotally, the increases in the large deposits along with the increase in the FDIC insurance fee motivated Bank of New York/Mellon to start charging depositors a 0.13% fee for amounts over $50 million as discussed in this Pittsburgh TribLive article pulled from Bloomberg News.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

Source: Is The U.S. Encouraging Blue-Chip Corporations To Hoard Cash At Taxpayer Risk?