Financial profit rises (as a share of total corporate profit) before or during every recession shown on the graph -- except the 1974 and 1980 recessions which, coincidentally, can be attributed to rising oil prices. Financial profit rose from less than 6% of corporate profit in 1943, to more than 19% in 1970, and from 12.27% in 1981 to 42% in 2002.
Thursday, February 6, 2020
Snippets: The Growth of Financial Cost
From mine of 3 January:
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5 comments:
Kevin Kliesen, in a historical overview of political opposition to raising the Federal Funds target rate, from A Comparison of Fed "Tightening" Episodes since the 1980s:
"Political pressure on the Fed often stemmed from the belief that monetary policy actions are regularly designed to favor the wealthy and financial market participants (“Wall Street”) at the expense of the “working class” and those on fixed incomes."
My graph shows that financial sector profits rise relative to nonfinancial sector profits as rising interest rates begin to have the intended effect. While this is not exactly the same complaint the politicians have, it does expose the underlying process leading to the conditions which give rise to those complaints.
My graph shows that financial sector profits rise relative to nonfinancial sector profits as rising interest rates begin to have the intended effect.
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I'm curious why you would conclude that higher profits is an "effect" of higher interest rates.
Interest is a cost. How can increasing cost promote higher profits?
The opposite seems to be more believable. If profits are high then firms will be willing to borrow at high rates. If profits are low or nonexistent then firms are not going to be willing to pay high interest if they are willing to borrow at all.
Low profits drive the willingness to borrow and interest rates down and high profits drive the willingness to borrow and interest rates up
Hi Jim. You said:
"Interest is a cost. How can increasing cost promote higher profits?"
Short answer: The financial sector receives the interest payment.
Long answer:
For the nonfinancial sector, interest is a cost. Things work as you describe.
For the financial sector, interest is a cost AND IT IS INCOME. Therefore an increase in interest rates is less costly (and more profitable) for finance than for the nonfinancial sector.
Here's a new graph.
https://fred.stlouisfed.org/graph/?g=q6LA
It compares the financial share of corporate business profit to the nonfinancial share of corporate business profit. Red is financial; blue is nonfinancial.
I don't find Financial Corporate Business profit at FRED so I calulate it from Corporate Business profit minus Nonfinancial Corporate Business profit.
I added a constant to the Financial number so that Financial and Nonfinancial start at the same level in 1947. Hopefully this makes it easier to compare the two lines.
Follow the red line of finance:
It rises from 1947 to the 1949 recession. Coming out of that recession it falls thru 1950.
Then it rises from 1951 to the 1954 recession. Coming out of that recession it falls thru 1955.
Then it rises from 1956 to the 1958 recession. Coming out of that recession it falls to mid-1959.
Then it rises into the 1961 recession. Coming out of that recession it falls to 1965.
Then it rises into the 1970 recession. And coming out of that recession it falls.
Obviously, the nonfinancial share (blue) rises when the financial share falls, and falls when the financial share rises.
The graph ends at 1970. The 1974, 1980, and 1982 recessions show interference in the pattern, probably due to OPEC. Later recessions show the pattern again. Please look for it and tell me what you think.
The graph shows that nonfinancial profit gains on financial profit early in each recovery, when interest rates are at their cyclical lows.
It shows that financial profit gains on nonfinancial later in the recovery, when interest rates are higher, and also during the recession.
This graph, like the other one, shows that financial sector profits rise relative to nonfinancial sector profits as rising interest rates begin to have the intended effect.
This behavior is typical because the rise and fall of interest rates is the typical pattern of business cycles, and because IT IS OUR POLICY TO RAISE AND LOWER INTEREST RATES to manage growth and inflation.
I conclude that monetary policy contributes to the growth of finance.
Oh, the other graph was
http://econcrit.blogspot.com/2020/01/the-greatest-trick-devil-ever-pulled.html#graph3
This behavior is typical because the rise and fall of interest rates is the typical pattern of business cycles
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yes it is just price changes due to forces of supply and demand
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IT IS OUR POLICY TO RAISE AND LOWER INTEREST RATES to manage growth and inflation.
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Why introduce an alternate explanation when movements in interest rates can be fully explained by market forces?
As far as I can see the "intended effect" of rising interest rates is that people with savings who are looking for higher returns want to take advantage of high demand for credit. How nuch risk they are willing to take is also a factor.
"Why introduce an alternate explanation when movements in interest rates can be fully explained by market forces?"
Because we can devise a better policy, one that would not encourage the growth of finance at the expense of the nonfinancial sector. It is unlikely that we could devise better market forces to solve this problem.
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