Link Between Borrowing and Investment Starting to Fray as Companies Opt to Buy Back Stock Instead

By:
Chris Gaetano
Published Date:
Aug 8, 2019
business-1730089_1920

For years, a bedrock principle of fiscal policy was that companies that borrow will use their money to invest and expand, thus creating new jobs and economic growth, but that link seems to be growing weaker as loans are increasingly being used instead for stock buybacks and dividend payments, according to Bloomberg.

This new development is indicated by both the historically low levels of corporate investment, despite tax cuts and interest rate cuts, and the rising levels of buybacks and dividends. Last year, for example, saw half a trillion dollars in dividends and more than three-quarters of a trillion dollars in buybacks. Meanwhile, capital expenditures as a share of total assets has gone from higher than 10 percent decades ago to about 6 percent now.

The fading link between borrowing and investment means that monetary policy, which is often aimed at making it easier or harder to borrow, has less impact on what companies actually do. The rise of debt-financed buybacks and dividends, too, means that companies will be less resilient in the face of another crisis, as they may then struggle to pay back the loans when times are bad because they won't have as much to pare down or sell compared to firms that used debt for capital investments. 

Defenders acknowledging the fading link between investment and debt, however, say that buybacks and dividends tend to increase stock price, which is seen as an overall proxy for the company's health; a good share price makes companies ​feel ​richer, which could then induce them to invest more. Bloomberg points out that this was the logic behind the Fed recently cutting interest rates for the first time since the financial crisis. However, while confidence has indeed seen asset prices rise, it so far has not spurred increased investment. 

Click here to see more of the latest news from the NYSSCPA.