EXCESS CASH AND INVESTMENT EFFICIENCY: NEW EVIDENCE FROM DYNAMIC MODELING IN INDONESIA’S MANUFACTURING SECTOR
This study investigates the complex relationship between excess cash holdings and investment efficiency among manufacturing firms listed on the Indonesia Stock Exchange, leveraging both static regression techniques and dynamic panel data analysis using the Arellano-Bond Generalized Method of Moments (GMM) estimator. While cash reserves provide firms with strategic flexibility and protection against liquidity shocks, excessive cash accumulation may signal managerial inefficiency or agency problems, potentially distorting optimal investment decisions. The research addresses a critical gap in the literature by focusing on emerging market dynamics, where corporate financial behavior often diverges from established theories rooted in developed economies. The sample comprises panel data from 2019 to 2022 for a cross-section of publicly traded manufacturing companies, representing diverse sub-sectors and ownership structures. Initial descriptive statistics reveal substantial variation in cash holding patterns, firm size, leverage, and investment intensity. Ordinary Least Squares (OLS) regression analysis demonstrates a statistically significant inverted U-shaped relationship between cash holdings and investment efficiency, suggesting that moderate levels of liquidity enhance investment outcomes, but beyond a certain threshold, further cash accumulation impairs efficiency. To account for potential endogeneity, persistence, and unobserved heterogeneity, the study employs the dynamic panel GMM Arellano-Bond approach. The results confirm the findings of the static model while offering deeper insights into the adjustment process over time. Specifically, the lagged value of investment efficiency is found to be a strong predictor of current efficiency, underscoring the path-dependent nature of corporate investment behavior. Excess cash holdings continue to exhibit a non-linear effect: while initial increments in cash are positively associated with efficiency, excessive reserves are linked to declining marginal returns on investment, validating the “double-edged sword” hypothesis. Furthermore, the dynamic model highlights the roles of leverage, dividend payout policy, and ownership dispersion as significant moderators. Higher leverage amplifies the precautionary value of cash but may also exacerbate agency costs if left unchecked. Firms with more dispersed ownership structures display greater sensitivity to liquidity shocks, influencing how cash holdings translate into investment performance. Diagnostic tests, including the Arellano-Bond AR(2) and Hansen test, confirm the validity of the model and the appropriateness of the chosen instruments. The findings have important implications for both theory and practice. From a theoretical standpoint, the results challenge the universal applicability of cash holding theories by highlighting context-specific dynamics in emerging markets. Managerially, the evidence suggests that firms should strive for an optimal cash balance, mindful of the trade-offs between liquidity, investment opportunity, and governance risk. Policy makers are encouraged to consider the nuanced interplay between corporate governance and liquidity management in formulating financial regulations. In conclusion, this study provides robust empirical evidence that excessive cash holdings may undermine investment efficiency in Indonesian manufacturing firms. The integration of dynamic modeling adds significant value, capturing adjustment processes often overlooked instatic analyses. These insights contribute to the ongoing discourse on corporate liquidity management, agency theory, and investment efficiency in emerging market contexts.
Excess Cash, Investment Efficiency, Dynamic Panel, GMM Arellano-Bond, Emerging Markets.