Joint Deterministic and Stochastic Approach to Cash Balance Modelling: a Cash Model Specification and Verification
Joint Deterministic and Stochastic Approach to Cash Balance Modelling: a Cash Model Specification and Verification

Author(s): Aleksandra Szpulak, Tomasz Michael
Subject(s): Micro-Economics, Methodology and research technology, Accounting - Business Administration
Published by: Masarykova univerzita nakladatelství
Keywords: cash balance model; financial modelling; deterministic model; stochastic model;
Summary/Abstract: This paper refers to cash balance modelling at a company level. The goal is to specify a cash balance model that simultaneously satisfy 3 conditions: (1) it captures deterministic nature of cash flows, as cash is controllable variable, (2) it captures random component of cash flows, as cash flows are subjected to risk factors, and (3) it incorporates endogenous random component from real deviations, as typically a stochastic model build with Monte Carlo simulation technique captures exogenous random component. It is assumed in this research that a process generating cash balance can be broken down into two parts: (i) a core of a process giving base case cash balance under the managerial control, and (ii) a stochastic process generating random fluctuations about base case cash balance. It is hypothesized in the paper that separate modelling of a core and stochastic process yields a model that satisfy conditions (1) – (3) and therefore accurately describes the underlying cash balance process. Therefore, the core of a process is described by deterministic model, while a series of random fluctuations is described by compound Poisson stochastic process. In this paper, we derive and next verify a cash balance model under such joint deterministic and stochastic approach to cash balance modelling. Results indicate accurate description of the underlying process and provide promising evidence to support our research hypothesis.

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