Does economic risk affect corporate cash holdings?

Abstract

PurposeEconomic risk plays a vital role in firm's cash holdings. We aim to determine the impact of economic risk on the firm's cash holdings.Design/methodology/approachThe data is collected from the DataStream from 2002 to 2018, which covers 552 listed firms in the manufacturing sector of Pakistan, Sri Lanka, India and Bangladesh. We apply a two-step dynamic panel estimation to analyze the results.FindingsWe use the variance of inflation and variance of interest rate as proxies of economic risk. Our results show that variance of inflation has a significant and negative effect while the variance of interest rate has a significant and positive effect on firms' cash holdings in selected countries. Furthermore, we find economic risk negatively affects the firm's cash holdings in the country-wise analysis. Firms should maintain a reasonable amount of cash reserves to handle uncertain situations.Originality/valueThis study may provide insights to financial decision-makers of a firm for better cash management according the economic conditions of the country.