Uncertainty of uncertainty and firm cash holdings

John W. Goodell, Abhinav Goyal () and Andrew Urquhart

Journal of Financial Stability, 2021, vol. 56, issue C

Abstract: We examine the impact on firm cash holdings of uncertainty of uncertainty, measured as the ex post volatility of economic policy uncertainty. Using the news-based index developed by Baker et al. (2016) for twenty-two countries, we find that, when there is greater volatility of economic uncertainty, firms hold more cash. Our results are robust to controlling for a host of firm-level and country-level factors. Consistent with Baker et al. (2016), we consider that less economic policy uncertainty is associated with more investment; and so the real-option value of cash is sensitive to the possibility of a future desirability of investment. Therefore, when there is greater expected volatility of uncertainty, measured under rational expectations as the recent ex post volatility of uncertainty, firms will hold more cash. We also find that the volatility of economic policy uncertainty is much more economically significant in determining firm cash holdings than economic policy uncertainty itself. Therefore, our paper not only adds to the literature on uncertainty and cash holdings, but also, importantly, to the limited literature in finance on the impact of uncertainty of uncertainty.

Keywords: Economic policy uncertainty; Uncertainty of uncertainty; Cash holdings; Real options; Transaction costs (search for similar items in EconPapers)
JEL-codes: D8 G32 (search for similar items in EconPapers)
Date: 2021
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (12)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:finsta:v:56:y:2021:i:c:s1572308921000814

DOI: 10.1016/j.jfs.2021.100922

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