Why has the stock market been so strong in recent years? One answer is that Corporate America has never been so profitable. The following graph depicts corporate profit margins since 1947, and you will note that the current reading of 13.2% is 80% greater than the long-term average of 7.3%. The trend has been particularly strong in the past six years with margins increasing from 7.9% in 2020 to the current level.
There are a number of explanations for this powerful trend including:
- Technology has resulted in productivity gains.
- Globalization gave companies access to lower cost labor and materials.
- Many industries have become more concentrated providing leading companies with greater pricing power.
- Unionization has been on the decline for many years, which gives companies greater power in labor negotiations.
- Tax cuts and generally low interest rates have contributed to the bottom line.
While this trend has been great for business owners and investors, it is not without controversy. The following chart shows the division of GDP between corporate profits and wages since 1970.
The dark blue line indicates that employee compensation has decreased from about 66% of GDP in 1990 to the current level of a little under 62%. In contrast, corporate profits as a percent of GDP (the light blue line) almost doubled during the same period. In simple terms, there has been a material shift from labor to capital in their respective share of the economic pie. Since most people understandably have a difficult time identifying with the division of GDP, a better indicator of the controversy is growth in real or after-inflation wages. It has averaged only .5% per annum since 1990, a period during which profits grew at a 7.8% annual rate.
The bottom line is that profitability has been great for asset owners. However, inflation plus the shift in the relative share of GDP between workers and corporations suggest that we should be having meaningful discussions about income inequality and the K economy.