Why is the US recovery so weak? – look at profitability

The latest official data on US profits and GDP have been released.  Now we know the full story up to the end of 2011 (see the US Bureau of Economic Analysishttp://www.bea.gov/newsreleases/national/gdp/2012/gdp4q11_3rd.htm).

The first thing to note is that the Great Recession, as with most capitalist slumps, started with a collapse in investment.  Expressed as a percentage of GDP, US business investment (which I define as non-residential fixed investment and durable goods purchases) started to fall as early as 2006 before troughing in mid-2009. But as you can see, the recovery in investment since then has been very weak: it remains 22% below its peak.  The grey patches show the recession periods in the US.

Measured in dollars, fixed investment peaked in absolute terms in early 2007, fell to a trough in mid-2008  and has made only a modest recovery since.  At the end of 2011, US business investment in nominal terms was still some 8% below its previous peak before the start of the Great Recession.

The reason for the slow recovery can be found in the hoarding of cash by US corporations.  Corporate profits peaked back in mid-2006, falling 42% to a low at end-2008.  So profits fell first and investment followed three quarters of a year later, leading to the recession.  This is one of the key analytical differences between a Marxist analysis of the ‘business cycle’ and the Keynesian one.  The Marxist analysis starts with profits and profitability and moves onto the impact on business investment and then job losses (a rise in the ‘reserve army of labour’) and finally to consumption.  Keynesian analysis starts with a fall in ‘effective demand’ (investment and consumption) which hits sales and then business profits.  This is back to front (see my post, Double dips, deficits and debt, 24 August 2011).

US corporate profits have recovered dramatically since the trough at the end of 2008.  They surpassed their previous peak in 2006 by early 2010.  This was achieved by a massive reduction in costs (including labour costs) and a strike in investment.  But most of the recovery in profits since the end of 2008 has been hoarded and not spent on new investment.  According to these latest figures, undistributed profits have accumulated to $744bn from just $19bn at the end of 2008!   Profits are up around $1trn since then, but the cash accumulation is up over $700bn, so only 30% of the increase in profits has been spent on new investment.  This explains why the economic recovery has been so weak, with the US economy growing only barely at 2% a year (1.6% yoy according to the latest Q4’11 GDP data).

By the way, it is exactly the same story in the UK, where the corporate cash hoard has reached £754bn, even larger as a share of UK GDP.   According to Treasury Strategies, a body that looks at these things, corporate cash in the US was 10% of GDP in 2000 and is now 15%, while in the Eurozone the corporate cash pile has risen from 15% to 21% and in the UK from 26% in 2000 to 50% of GDP in 2012 (http://treasurystrategies.com/news)!

Why have US corporations hoarded their profits rather than invest in new expansion?  It is not just uncertainty about the future, with debt crises in Europe, slower growth in China or the fear of a new banking collapse.  These are ‘psychological’ explanations beloved by mainstream economics and Keynesian ‘expectations’ theories.

There is a good objective reason for that.  This is the crucial point.  While US profits are up, profitability i.e. the rate of profit, is not.    I have measured the rate of profit in ‘whole economy’ terms i.e. total surplus-value in the economy (net product less employee compensation) against the net fixed assets of the corporate sector and labour costs.  And I have measured fixed assets in both replacement and historic costs terms.  I have also measured the profitability of the corporate sector on its own.  The results are the same: despite the credit-fuelled boom of 2002-07, the US rate of profit is still below its peak in 1997 just before the Great Recession.  The Great Recession saw the rate of profit plunge, but the subsequent recovery in profitability did not achieve a return to the previous rate of profit.

This suggests that the impact of the destruction of capital values (capital stock and the labour bill) in the Great Recession, though huge, has still not been enough to restore US profitability.  Given that the previous boom of 2002-07 was one characterised by a massive expansion of credit (or fictitious capital), if we also measure profits relative not just to tangible assets (the cost of machinery, plant, offices and labour) but also to debt, then profitability is even worse.

The Great Recession was ‘great’ precisely because of the huge rise in private sector debt that now has to unwind.  The burden of that debt (subsequently transferred to the public sector and the taxpayer) is weighing down on the ability of capitalism to recover ‘normally’.

We don’t yet have all the data to make an accurate measure of the US rate of profit in 2011, using Marxist categories.  In particular, we don’t have figures for fixed assets in 2011 yet.  But I have made a reasonable estimate of where that might have ended up by looking at previous recoveries from recessions.  On that basis, I reckon the rate of profit fell back in 2011.

This current ‘profit cycle’ started at a peak in 1997 (see numerous posts!).  It fell back to a low in 2002 after the mild recession then.  It then rose up to 2006  before heading down again before the start of the Great Recession – again, profitability led investment and that led to the recession.  Through the Great Recession of 2008-9, profitability fell 13% from its 2006 peak.  Then it made a sharp recovery in 2010 of 10%.  But I reckon it slid back last year.  That does not encourage corporations to launch a big investment programme.  Indeed, if I include financial assets as well as tangible assets in the denominator for 2011, there has been little or no recovery.  Deleveraging (or the destruction of capital value) has not been sufficient.

What will happen from here?  Well, using reasonable assumptions for GDP growth, employee wage bills and net fixed assets, I reckon the US rate of profits will slide further in the next few years, eventually provoking a new economic slump from about 2014 onwards with an actual fall in total surplus value.   We remain in the down phase of a 16-18 year profit cycle that will only be reversed when the value of capital (both tangible and fictitious) has been reduced sufficiently to sustain a new period of rising profitability as from 1982-97.  In the meantime, the US economy remains in its ‘long depression’.

15 thoughts on “Why is the US recovery so weak? – look at profitability

  1. You estimates look to high to me. I think its a problem with using national income less wages to derive total surplus value. This is the property income method of AK. It classifies government expenditure as profits, which is wrong
    My own estimates (based on the total of corporate profits, rent, and non-far executive remueration) are lower, but show a stronger recovery. If you assume the rate of growth of the fixed capital stock at 5% for 2011, which is probably too high, then the rate of profit in 2011 was the highest since the early 1960s.
    The reason there’s been a lag in private fixed investment is probably due to the ongoing uncertainty around the financial crisis, Eurozone etc, rather than a crisis in profitablity. Figures for net fixed investment seem to be rising more recently.

    1. Hi Bill

      Sorry I’ve taken a little time to get back to your comment. I’ll leave aside the question of the issue of using a ‘whole economy’ measure of the rate of profit for now. I’d appreciate knowing how you worked out your estimates. Can you give the lines you used in the US BEA accounts, so I can see?

      If you remember, I tried to reproduce your approach in my post The rate of profit: the devil in the detail, 12 January 2012. See either graphic there. I updated these for 2011 based on an increase of 4% in capital stock for 2011, which seemed reasonable as it was in line with previous recoveries. My results still produced a slight fall in 2011.

      US business investment is picking up. But the recovery has been slower than after the recessions of 1974-5 and 1980-82 over the same period (eight quarters), although interestingly, slightly better than after the recession of 1991-2 and 2001.


      1. Hi Michael
        Yeah you did it pretty accurately from what I remember. I estimated 5% increase in the FCS, which is probably an overestimate, but it doesn’t make much difference either way.
        What it confirms is that there has been a strong recovery in the rop since the bottom of the recession in 2009. Depending on exactly which variant of the denominator you use, that recovery is either to the mid-1960s or mid-1950s. Very strong for this early in the business cycle.
        Basically I take national income, table 1.12, then I add the total of rent line 38, non-farm proprietors income line 35, corporate profits line 41 to get the mass of profit.
        I don’t think I’ve missed anything, but I stand to be corrected.
        To work out the current production rate of profit you divide the mass of profit by national income less mass of profit.
        This divides the current profit by all other value added in a given year. This includes all expenditure on inventories etc. assuming that they are used within a year.
        To get the rate of profit as a whole you then add the fixed capital stock to the denominator. From my point of view you can use either historic or current, they provide the parameters within which the rate of profit moves.

        As a digresssion the difference between GDP and national income is indirect taxes plus depreciation. Depreciation is deducted from profits, when it should be added to costs. If you add capital consumption on both sides of the equation you can compensate for this. It basically raises the rate of profit, as the proportionate increase in profits is larger than the proportionate increase in costs.
        It doesn’t make any difference to the overall level of profit rates but it does show a sharper recovery since globalisation as depreciation has risen as a proportion of national income.

  2. This seems right to me. I wrote in 2008 that the crisis of profitability would last until about 2020 and was largely ridiculed at the time, but Long Wave theory seems to be being borne out by developments on the ground, if theses stats are correct. The fact that the secular reality of the economy is sputtering as it is seems to bear out the correctness of these stats in turn.

  3. Robert writes:
    >This is one of the key analytical differences between a Marxist analysis of the ‘business cycle’ and the Keynesian one. The Marxist analysis starts with profits and profitability and moves onto the impact on business investment and then job losses (a rise in the ‘reserve army of labor’) and finally to consumption. Keynesian analysis starts with a fall in ‘effective demand’ (investment and consumption) which hits sales and then business profits.the previous boom of 2002-07 was one characterized by a massive expansion of credit.< To a large extent, this was due to the deregulation of finance (easier lending standards) and the housing bubble (providing collateral) which allowed booming consumer spending (relative to income). Then, when housing prices started falling and credit receded, consumer spending collapsed (the famous "wealth effect"). This was a big part of the 2007-09 recession.

    As I argue elsewhere, the US economy suffers from a long-term underconsumption undertow, starting in the late 1970s and intensifying over time. This means that because of the widening gap between rich and poor — with the "middle class" being stretched thin over this chasm — that part of mass consumption not based on credit has been depressed (relative to GDP). The gap has been largely filled by volatile elements of total spending, i.e., private fixed investment, luxury spending, and credit-backed mass consumption spending. That means that the massive expansion of credit of 2001-07 — and the bubble economy — were _required_ to allow the "previous boom" to occur but that at the end, consumers were stuck with the debt.

  4. Excellent! Very much needed ongoing analysis of the current economic situation by Marxist political economists. Thank you. I for one don’t get enough of this.

    You have been emphasizing a very important point. I’m referring to “The Marxist analysis starts with profits and profitability and … finally to consumption. Keynesian analysis starts with a fall in ‘effective demand’ … and then business profits”. Keynesian analysis is upside down.
    I still hear some Marxists, influenced by the media/Keynesian as well as Sweezy/Baran/MR tradition (with all due respect), continue to argue that under-consumption is the main issue.
    How are they explaining the dramatically recovery of corporate profits since 2008 trough? If anything it should have suffered even more due to lower wages resulting in lower consumption. Your work here hopefully helps eradicate those theories among Marxists.

    I also appreciate you referring to the current situation as a ‘long depression’. It’s a depression though a precise definition of which cannot be found in Marxist literature.

  5. I think I agree with Jim Devine here (If I understand him). Lack of demand can cause a realisation of profit problem. Inbalances in income distribution can affect the performance of the economy. I don’t think looking at profits first is the right way round. Surely, from a dialectical point of view, there isn’t really a right way round?

    1. I’d agree that looking at profits first makes a lot of sense, while it might be the “right way round.” As I interpret US macroeconomic history, the rate of profit fell going out of the 1960s to the 1970s (for a variety of reasons which I’ll ignore here). Falling profitability sparked the “employers’ offensive,” the effort to restore profits by hook or by crook, including the rise of neoliberalism. Since then, the widening gaps in the distribution of income have meant that we’ve seen an “underconsumption undertow.” This doesn’t actually cause a business cycle as much set its context: with the shrinking role of government fiscal policy, it’s been the “private sector” which has led the economy through boom and bust, with the Federal Reserve trying to smooth out the process. (Of course, it’s currently failing to restore prosperity, because of the interlocking barriers I discussed before, plus the fragility of the entire US financial system.)

  6. “The destruction of capital values (capital stock and the labour bill) in the Great Recession, though huge, has still not been enough to restore US profitability.”

    An accurate statement about the cycle, also implying that in general the crisis of a cycle can be overcome, with enough pain for working people, by destruction of capital values.

    At a certain point in its history, the capitalist mode of production can no longer concede a portion of the gains of increasing productiveness to workers. The U.S. has been sliding into this final phase since 1973. No amount of math and data on the rate of profit will explain it, but it can be explained.

  7. Cameron says:
    “I still hear some Marxists, influenced by the media/Keynesian as well as Sweezy/Baran/MR tradition (with all due respect), continue to argue that under-consumption is the main issue.
    How are they explaining the dramatically recovery of corporate profits since 2008 trough? If anything it should have suffered even more due to lower wages resulting in lower consumption.”

    I would posit that consumption is still the problem – with wage erosion as the principal cause. Until 2008, the problem was masked by the availability of consumer credit, which came to an abrupt halt at the end of that year. Profit levels as a percentage of sales were relatively unaffected, because wages had been suppressed for a long time, but when sales suffered, business contracted at the same rate as sales, so profitability was only modestly penalized. As long as the Iron Law can maintain downward pressure on wages, the fall in sales will not result in a fall of profitability as a percent of sales. As sales erode, wages will erode along with them.

    So yes, under-consumption is still the problem, and wage erosion is the cause. Historically it is always true, just as it is today. This is currently masked by profit margins being maintained as dramatic wage erosion and export growth is able to compensate, to a large degree, for declining domestic consumer sales. Eventually, as consumption continues to erode, profitability will have to take a hit, leading to the feared “second dip.” If history is a guide, it will be much worse than three years ago.

    The suggested 2014 scenario is a realistic one, but it assumes no perturbing factors, such as a collapse of the European financial industry. Should that happen, an instant credit freeze could put us right back to the dark days of early 2009, with no prospect for recovery until consumption recovers, which would depend on wage recovery. In other words, in the absence of any organized labor movement, never. Which is a way of saying that we are about to re-experience the collapse of the Spanish Empire in the 1580s, the Dutch Empire in the 1760’s, the British Empire in the 1900s. And that is a way of saying that it’s all over but the shouting. Disliquidation of the middle class always leads to disliquidation of the economy in the end. History is very clear about that. Too bad no one reads economic history much anymore.

  8. Reported Earnings for the S&P 500 are higher than they were back in 2007. How can you say “profitability” has not recovered?

    1. Grubs
      The mass of profit and the rate of profit (profitability) are not the same. Also S&P-500 data are not the whole economy, although they usually reflect it pretty well. The mass of profit in the US has exceeded 2007 levels (see my posts on this) but, because of a matching rise in the stock of capital, the rate of profit was pretty steady in 2011 (at least according to my preliminary estimates) – and most important is below the 1997 level.

  9. I have an alternate explanation for your perusal.

    If you study the components that make up the GDP…


    …you’ll find that mostly there’s been a mild recovery, just as all the msm talking heads are saying, except for in two areas: residential investment (new homes construction) and structural domestic investment (factories, warehouses, etc.., anything structural that increases production capacicty.)

    Instead of the weak recovery with every other component, these two areas have experience no recovery whatsoever. Res Construction started dropping in 2005 and flatlined in 2009. Structural Investments dropped in 2008 and also flatlined in 2009. Neither have budged at all sinced 2009, not even .001%.

    Now if you graph the sum of structural investment plus residential construction against unemployment, going as far back as data is available there’s a lock-step inverse relationship, with a coorelation that is much stronger than just looking at total gdp percent vs unemployment. So even though GDP has mildly increased, the two components which matter the most to unemployment are in a coma.

    It really all goes back to the housing mortgage shenanigans of last decade. Res construction won’t budge until the the forclosures are cleaned out. Structural investments won’t budge into managers believe they are safe increasing capacity with overloading thier inventories. This is what is broken with the economy.

    I actually believe these both are set to finally start showing signs of life, and that real growth is finally on the way.

    That is, except for one very annoying wildcard which is crapping on the whole world..


    1. I like this. It has not been my view that the US is in recession or heading into it – yet. But I’m not sure we are going to see ‘real growth’ – the US could be stuck in below-par growth for some time for the reasons I have mentioned in several posts – even without a crisis in Europe.

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