Corporations v. employees.

Photographer: Shiho Fukada/Bloomberg

When Workers Get More of the Income Pie

Justin Fox is a Bloomberg View columnist. He was the editorial director of Harvard Business Review and wrote for Time, Fortune and American Banker. He is the author of “The Myth of the Rational Market.”
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Profits at U.S. corporations fell last year for the first time since 2008, according to the Bureau of Economic Analysis. If that sounds a little ominous, it should.

History shows that when earnings fall, the economy often follows them downward into recession as profit-starved companies cut back on hiring and investment.

That's Bloomberg's Rich Miller and Alexandre Tanzi, who quote economic forecasters with varying views of how seriously we should take the profit decline. I have previously come down on the "not very" side of that debate, but I could be wrong. The economy is complex, forecasting is hard, strange stuff can happen. 

There's definitely something important going on with corporate profits, though, especially if you look beyond the business cycle to the long-run picture. Pre-tax corporate profits hit an all-time high of 14.2 percent of national income in 2012, and after-tax profits hit an all-time high of 11 percent. Even in 2015 -- as already noted, not a great year for corporate profits -- after-tax profits still chewed up a larger share of national income than in any previous years other than 2014, 2013, 2012, 2011, 2010, 2006 and ... 1929. (That last one sounds a little ominous, too.) 

I use profits' share of national income because that's a better way of looking at trends over time than simple dollar amounts would be. As for national income, it's similar to the better-known gross domestic product but includes income from overseas (an important element of corporate profits), which GDP does not.

What the chart shows, among other things, is that since the early 1990s corporations have, with occasional cyclical interruptions, been gobbling up an ever-larger slice of the economic pie. Since the late 1990s people have (at least I have) been wondering how long this can go on. As I wrote -- incorrectly, it turned out -- in 2004: "Corporate profits simply cannot sustain a growth rate faster than that of GDP."

For corporate profits to grow faster than GDP (and faster than national income) some other sectors have to lose out. Here are four of the main constituents of national income:

Starting in the early 1990s, then, employees lost ground to corporations and, to a lesser extent, sole proprietors and landlords. In other words, capital gained at labor's expense. In the high-growth 1990s one could argue that this was still a good deal, because everybody was making more money. After 2000, though, slow economic growth and a declining share of that growth going to workers combined to put much of the country in a long funk.

Lately workers have regained a little ground, with employee compensation going from 61.1 percent of national income in 2013 to 62.2 percent in 2015. But here's the big question: Is this just a cyclical phenomenon, with corporate profits likely to resume their upward march before long, or have we finally reached that corporate-profit limit I thought we were nearing back in 2004?

Faster economic growth would make this question less pressing -- as in the 1990s, a growing pie would make the relative size of one's slice less important. But if continued slowish growth is what the future has in store for us, and lots of economists think it is, it seems clear that it would be better for the country -- if not necessarily its investors -- for corporations and other capitalists to ease up and let employees have more of the pie. It's less clear that the capitalists would do this voluntarily.

The sustained decline in after-tax corporate profits' share of national income after 1929 was the result first of the Great Depression, then of New Deal labor-law changes, then of sharp increases in corporate tax rates during World War II. Another decline in the profit share began innocuously enough during 1960s boom times, but was sustained by energy shocks and increased competition from overseas in the 1970s and 1980s. What might it be that could force corporations and their shareholders to hand over some of those profits this time?

  1. I've argued that this is to a large extent an oil-industry problem, and oil companies' woes won't necessarily drag down other companies. And I've written that U.S. corporations earn a much bigger share of their profits overseas than they used to, so a lot of the hiring and investment cutbacks brought on by profit declines would occur outside U.S. territory.

  2. Assuming that time starts in 1929, which is as far back as the data goes.

  3. Corporate taxes are lower relative to profits than they used to be in part because a growing share of the entities included under the BEA's definition of corporations aren't subject to the corporate income tax.

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

To contact the author of this story:
Justin Fox at justinfox@bloomberg.net

To contact the editor responsible for this story:
Zara Kessler at zkessler@bloomberg.net