All you need is cash

Financial crises affect firm growth not only in the short-run, but even more so in the long-run. Some firms permanently gain while others lose and cash is a crucial asset to have when the credit cycle turns. As we show in a new Staff Working Paper, having cash at hand allows firms to continue to invest during the crisis while industry rivals without cash have to divest. This gives cash-rich firms an important competitive edge that not only benefits them during the crisis but that gives them an advantage that lasts way beyond the crisis years.

But first, how are cash holdings – a firm’s deposit to asset ratio – actually distributed across sectors and firms? Figure 1 provides some insight. It looks at cash holdings just prior to the crisis, but these patterns have not changed much over time. Each dot represents an industry in the UK and shows how much cash firms in that industry have on average (horizontal axis) and how much these holdings vary within that industry (vertical axis). A striking fact stands out. Firms’ cash holdings not only differ greatly across but also within narrowly defined industries. This means that at any given moment in time some firms in an industry will have lots of cash at hand while others only very little.

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