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Interest rates, cash and short-term investments

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  • Ysmailov, Bektemir

Abstract

This paper addresses the recent mixed evidence on the relationship between interest rates and corporate liquidity. I find that high (low) interest rates are associated with high (low) short-term investments and low (high) cash due to the opportunity cost of holding the latter. Further, I show that interest rates are negatively related to total liquid assets, i.e., the sum of cash and short-term investments. These patterns suggest a two-level demand for liquidity. At the top level, there is demand for overall liquidity and an increase in interest rates increases its price resulting in a negative effect. At the bottom level, once the firm has decided its overall level of liquidity, it chooses what fraction to hold in cash versus short-term investments. An increase in interest rates increases the price of cash relative to short-term investments resulting in a decrease in the former and an increase in the latter.

Suggested Citation

  • Ysmailov, Bektemir, 2021. "Interest rates, cash and short-term investments," Journal of Banking & Finance, Elsevier, vol. 132(C).
    • Handle: RePEc:eee:jbfina:v:132:y:2021:i:c:s0378426621001849
    DOI: 10.1016/j.jbankfin.2021.106225
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    More about this item

    Keywords

    Corporate cash; Interest rates; Transactions model; Short-term investments; Marketable securities;
    All these keywords.

    JEL classification:

    • G30 - Financial Economics - - Corporate Finance and Governance - - - General
    • G31 - Financial Economics - - Corporate Finance and Governance - - - Capital Budgeting; Fixed Investment and Inventory Studies
    • E41 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Demand for Money

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