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Trade credit, cash holdings, and product market competition

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  • Zhang, Rongrong

Abstract

We examine how trade credit complements cash holdings in product market competition and find empirical support for this view. First, in line with the redistribution view of trade credit, we show that trade credit is sensitive to cash flows. Second, using an augmented Faulkender and Wang (2006) model, we report that stock market values both cash holdings and trade credit. Third, we identify that three common factors, namely, firms’ financial strength, market power, and relationship specific investments, moderate the valuations of cash and trade credit. For robustness, we use the U.S. import tariff reductions as exogenous shocks to product market competition and help establish causality between trade credit practice and competition. Overall, our findings strongly support the notion that corporate cash holding and trade credit decisions are intertwined. Managers be mindful of the trade-off between holding cash vis-à-vis distributing liquidity via trade credit.

Suggested Citation

  • Zhang, Rongrong, 2020. "Trade credit, cash holdings, and product market competition," The Quarterly Review of Economics and Finance, Elsevier, vol. 78(C), pages 132-146.
    • Handle: RePEc:eee:quaeco:v:78:y:2020:i:c:p:132-146
    DOI: 10.1016/j.qref.2020.01.006
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    Cited by:

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    More about this item

    Keywords

    Cash holdings; Trade credit; Product market competition; Market power; Relation specific investments;
    All these keywords.

    JEL classification:

    • G30 - Financial Economics - - Corporate Finance and Governance - - - General
    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill

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