Are American corporate profits really so high?

by on July 26, 2017 at 12:27 am in Data Source, Economics | Permalink

Notice that if a U.S. corporation earns a profit from affiliate operations abroad, the profit will be added to the numerator of CPATAX/GDP, but the costs will not be added to the denominator, as they should be in a “profit margin” analysis.  Those costs, the compensation that the U.S. corporation pays to the entire foreign value-added chain–the workers, supervisors, suppliers, contractors, advertisers, and so on–are not part of U.S. GDP.  They are a part of the GDP of other countries.  Additionally, the profit that accrues to the U.S. corporation will not be added to the denominator, as it should be–again, it was not earned from operations inside the United States.  In effect, nothing will be added to the denominator, even though profit was added to the numerator.

General Motors (GM) operates numerous plants in China.  Suppose that one of these plants produces and sells one extra car.  The profit will be added to CPATAX–a U.S. resident corporation, through its foreign affiliate, has earned money. But the wages and salaries paid to the workers and supervisors at the plant, and the compensation paid to the domestic suppliers, advertisers, contractors, and so on, will not be added to GDP, because the activities did not take place inside the United States.  They took place in China, and therefore they belong to Chinese GDP.  So, in effect, CPATAX/GDP will increase as if the sale entailed a 100% profit margin–actually, an infinite profit margin.  Positive profit on a revenue of zero.

Here is much more, with many visuals and further details at the link, including a treatment of how to measure corporate profits accurately.

For the pointer, I thank @IronEconomist.

1 AppleDave July 26, 2017 at 12:37 am

Would a better comparison be corporate profits/GNP? Alternatively, is corporate profits still the best numerator because of the shift in businesses to a partnerships/LLC/S Corp structure?


2 Kevin Erdmann July 26, 2017 at 1:52 am

Even his last graph doesn’t tell us much about operating profit. Much of the variation in profit is from changing leverage and changing inflation premiums on interest rates. On an enterprise value basis, firms were much more leveraged in the 1970s, and they also had high interest rates that were mostly due to inflation. If you add interest expense to profit to estimate domestic operating profits, it becomes much more stable over time.


3 Ray Lopez July 26, 2017 at 10:59 am

The author does discuss inflation with respect to the last graph, to wit: “Third, the charts look at nominal growth, rather than real growth. Profit margins don’t know what inflation is going to be going forward. But inflation has a significant effect on nominal profit growth. Since 1947, 3.7% of the 8.1% in nominal annual profit growth has been due to inflation–almost half the total. In an environment with highly variable inflation, such as the period from 1947 to 2013, profit margins shouldn’t be able to predict future nominal profit growth with such a high degree of confidence. If a chart is produced that shows that they can, coincidences in the data set are likely to be contributing to the result.”


4 rayward July 26, 2017 at 6:19 am

Foxconn, the company in China that makes most of the i-phones, is not owned by Apple. It was started and is controlled by Terry Gou of Taiwan. Why would Foxconn’s costs be added to Apple’s costs in determining Apple’s profitability? Many if not most foreign “affiliates” of U.S. companies have a similar structure and relationship. I should point out that Apple is not Foxconn’s only customer.


5 rayward July 26, 2017 at 6:42 am

Of course, the authors of the study are not arguing that Foxconn’s costs should be included in Apple’s costs, they are arguing that in this era of globalization national accounting statistics are misleading. Instead, accounting should be done on a global basis. Yesterday Cowen referred to a study that found that most “friends” reside within a short driving distance. I suppose someone residing in a beleaguered industrial town in Ohio has no “friends” in China. Perhaps the authors of this study about global “costs” didn’t hear that Trump won the election, and that “globalization” is about as popular among Trump supporters as “Clinton”. Is there a hidden meaning in Foxconn? Could it be that Apple is the Foxx and we got conned.


6 msgkings July 26, 2017 at 11:34 am

Looks like Foxconn just announced they are opening a new factory in Wisconsin…


7 dearieme July 26, 2017 at 7:23 am

Is this just a special case of a general rule namely that the aggregates that macro-economists use are, by and large, rubbish?


8 Ray Lopez July 26, 2017 at 10:53 am

It’s largely true; GM Rogoff and his co-author Reinhart in “This Time Is Different” said the same thing about data collected by governments (hard to come by and inaccurate).

See also this: DARK MATTER. Hausmann- Sturzenegger thesis


9 Ray Lopez July 26, 2017 at 11:01 am

Needless to say, by implication the cited author is stating the inverse of the Hausman-Sturzenegger thesis.


10 Floccina July 26, 2017 at 11:12 am

Dean baker on a similar subject.

As we can see, there is no pattern of decline over the last five decades. In fact, the labor share of net domestic product is higher today than it was in the sixties. The labor share did fall sharply in the Great Recession, but this seems easy to attribute to the extraordinary weakness of the labor market. The share is now recovering and my bet is, that if the Fed can be prevented from slamming on the brakes, the labor share will soon return to the levels we saw in most of the period from 1970 to the early 2000s.


11 rayward July 26, 2017 at 11:30 am

It depends on the meaning of “is”, or in this case “labor share”. Is the $10 million paid to a banker part of the “labor share”? What about the $900,000 per week salary paid to Marissa Mayer? What about the boy wonder in Silicon Valley who exercises his stock options and realizes $50 million in compensation income (the difference between the exercise price and the value of the stock at the time of exercise is treated as compensation for tax purposes and deductible by the employer)?


12 Floccina July 26, 2017 at 12:16 pm

I guess that you did click the link:

So we should definitely be worried about the upward redistribution of income, but it is not a story of a shift from wages to profits. But undoubtedly we can keep many eocnomists employed for some time trying to explain something that did not happen.

The point is that not a problem of too high profits. The problem with top executive’s compensation is that it is a small enough % of s&p profits that investors have very little motivation to object.


13 Shaun Marsh July 28, 2017 at 8:27 pm

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