In July, the U.S. Department of Commerce released data showing GDP growth had slowed sharply in the second quarter. Most economic reporting appropriately highlighted the data showing that we were not getting the investment boom that the Republicans had promised would result from their tax cut.
But there was also an important item in the annual GDP data revisions that many overlooked in the report: The revised profit data for 2018 showed that the profit share of corporate income had fallen by 0.4 percentage points from the prior year. This is a big deal for two reasons: It means that workers are now clearly getting their share of the gains from growth, and it tells us an important story about the structure of the economy.
On the first point, we know that the wages of the typical worker have not kept pace with productivity growth over the last four decades. While productivity growth has not been great over most of this period (1995-2005 was the exception), wages have lagged behind even the slow productivity growth over most of this period.
The one exception was the years of low unemployment from 1996 to 2001, when the wages of the typical worker rose in line with productivity growth. With unemployment again falling to relatively low levels in the last four years, many of us expected that wages would again be keeping pace with productivity growth.
The earlier data on profits suggested that this might not be the case. It showed a small increase in the profit share of corporate income, suggesting that corporations were able to increase their share of income at the expense of labor, even with an unemployment rate below 4 percent.
The revised data indicate this is not the case. The low unemployment rate is creating an environment in which workers have enough bargaining power to get their share of productivity gains and even gain back some of the income share lost in the Great Recession.
This brings up the second issue. Most of the upward redistribution over this period was not from ordinary workers to profits, but rather to high-end workers. The big winners in the last four decades have been CEOs, hedge fund and private equity partners, and at a somewhat lower level, highly paid professionals like doctors and dentists.
The shift to profits takes place only in this century after much of the upward redistribution had already occurred. One obvious explanation was the weak labor market following the Great Recession. With unemployment remaining stubbornly high, wages were not keeping pace with productivity growth or even inflation. An alternative explanation was that growing monopolization of major sectors (think of Google, Facebook and Amazon) was allowing capital to gain at the expense of labor.
The revised profit data seem to support the first story. In the last four years, the profit share has fallen by 3.2 percentage points. (It had dropped another percentage point in the first quarter of 2019, although the quarterly data are highly erratic.) At this rate, in four more years, the run-up in profit shares in this century will be completely reversed.
If the weak labor market following the Great Recession is the story of the rise in profit shares, there is still the problem of the run-up in profit share in 2003-2007, the years preceding the Great Recession. One explanation is that the profits recorded in these years were inflated by phony profits recorded by the financial sector.
Banks like Citigroup and Bank of America were recording large profits in these years on loans that subsequently went bad. This would be equivalent to a business booking large profits on sales to customers that did not exist. Their books would show large profits when the sales were recorded, but then they would show large losses when the business had to acknowledge that the customer didn’t exist, and therefore write off a previously booked sale.
Profits that are based on sales to nonexistent customers don’t come at the expense of workers, nor do profits that are booked on loans that go bad. (The subsequent recession was, of course, very much at the expense of workers.) For this reason, we should be somewhat skeptical of the shift from wages to profits in the years of the housing bubble.
In any case, the revised profits data are good news. They show a tight labor market is working the way it is supposed to. But this doesn’t mean everyone is doing great. You don’t reverse four decades of wage stagnation with four relatively good years.
However, things are at least moving in the right direction now, and that is good news. That has not generally been the case over the last 40 years.
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