The United States of Debt

POLITICS in America may be an arena of mutual misunderstanding with few established facts, but the debate over the health of US corporate balance sheets is, if anything, even more baffling. On one side are those who complain that America Inc is hoarding $2,000,000,000 of idle money and that this is acting as a powerful drag on the economy. On the other are those, including the IMF, who are crying that companies are going into debt, with borrowing hitting a record high of $8.4 billion last year. As a result, companies are accused of being both timid wimps and reckless fools.

In fact, the numbers show that they are on the whole a reasonable bunch (especially compared to bankers and politicians in the country). Moreover, the debt debate, as framed, misses the most intriguing thing about their balance sheets. These have been radically reshaped to adapt to the three national economic diseases: a financial system that businesses are still wary of after the crisis; a broken tax code; and monopoly profits.

Measuring the leverage of a company’s balance sheet involves a few moving parts, which may explain some of the confusion surrounding borrowings. There is the debt, the money and the profits which are used to pay the interest. For current members of the S&P 500, excluding financial companies, all three measures have skyrocketed over the past decade. Debt increased by 114% and cash by 162%; gross operating profits are 51% higher. It’s easy to sort through these numbers to make contradictory claims.

What matters, however, is the size of companies’ net debt (debt minus cash) relative to earnings. Comparing them is like deducting the money in your bank account from your debts and comparing the net amount to your salary. The ratio for members of the S&P 500, adding up all their accounts, is a reasonable 1.5 times, slightly higher than a decade ago and lower than Europe and Asia. Some companies are more “oriented” than others. But the share of total debt owed by highly indebted companies has remained fairly stable over time. Although the S&P 500 numbers reflect only large publicly traded companies, the national accounts data includes them all and shows similar trends, with a stable net debt ratio compared to 2006.

That doesn’t necessarily sit well with rich-country central banks, which since the financial crisis have kept interest rates low, in part to try to persuade corporations to splurge on cheap debt-financed investment splurges. But businesses don’t operate the way some economists would like. They invest in accordance with their long-term strategies, using proven rules of thumb to measure the attractiveness of new projects.

Even though corporate America spent a decade ignoring the Federal Reserve, they changed their behavior in response to the three evils of the economy. First, their distrust of the financial system means they have a larger buffer of cash and liquid assets. Before the collapse of Lehman Brothers in 2008, companies assumed they could always tap into money markets or borrow from banks. Now they don’t fully trust either. For every dollar of total gross earnings that current S&P 500 constituents earn, they carry $1.25 in cash, up from 72 cents a decade ago.

The second change is that businesses had to adapt to a decrepit tax code that stuck in the 1980s, before business globalization. Companies have to pay a tax if they try to bring foreign profits home, and therefore many don’t care. About half of S&P 500 companies’ cash stays offshore. Many multinationals now divide their balance sheets according to geography. They are hoarding cash overseas and borrowing in America. Apple, for example, is issuing bonds at home to pay for its stock buybacks, rather than tapping into the $240 billion it has stashed overseas. Thus, although the consolidated balance sheet of America Inc, which adds up the domestic and foreign parts, is cautiously exploited, it is more complex than before.

The latest change is that corporate profits have soared, partly reflecting a decline in competition in the economy and the rise of oligopolies in many industries. Companies implicitly assume that this is a permanent change. They allowed their net debt to grow at about the same rate as their profits (using those windfall profits and borrowings to fund stock buybacks).

Established oligopolies like AT&T and Kraft Heinz now boast both massive profits and high levels of net debt, reflecting the fact that their leaders do not expect much competition. Similarly, US airlines have taken on debt as their profits have soared. Younger monopolies such as Alphabet and Facebook have clean cash positions, largely because the money has only just begun to flow. Eventually, they could also prepare.

god help america

Both arguments, that America Inc either lost its cool or got reckless, are wrong. But the reshuffled balance sheet of the corporate world carries risks. The first is that the $2 trillion liquidity buffer could be invested imprudently. Every company insists it puts its reserve money in safe banks and low-risk bonds, but this is an area where disclosure is poor, and it wouldn’t be surprising if a few corporate treasurers made bets. dangerous speculation. Another risk is that a geopolitical or financial shock will make it more difficult for capital to cross borders. America Inc’s geographically divided balance sheet would be more difficult to manage.

A final risk is that abnormally high profits could fall, making it more difficult to service debts. Antitrust watchdogs could get tougher on telecommunications and cable TV companies, for example, driving down profits. Or the labor market could tighten, pushing wages up and prompting the Fed to raise interest rates. This would squeeze companies’ near-record margins and increase their interest charges.

This is clearly not what many CEOs expect. The message buried in the balance sheets is not that corporate America is behaving stupidly in response to today’s business climate. It’s that they think the disappointing status quo of high profits, stifled competition, slow wage growth, and dysfunctional political and financial systems will continue for a long time to come.

This article appeared in the Business section of the print edition under the title “The United States of Debt”