Arthurian Profit Study 3.0: Getting the F out

“One indication of financialization is the extent to which non-financial firms derive revenues from financial investments as opposed to productive activities.”

- Greta Krippner, quoted by Bezemer and Hudson

Today we're looking at corporate business (CB) profits. Corporate business profits before tax. At FRED, corporate business profits are reported for two main categories: the total, and the NCB (nonfinancial corporate business) component. Subtracting NCB from the total gives us a third main category, the FCB (financial corporate business) component:

Graph #1: Financial (red) and Nonfinancial (blue) components of CB Profits  (billions)

NCB profit (blue) is the larger of the two components, currently around 1100 billion. FCB profit (red) comes in around 400 billion. Taken together, FCB and NCB profits add up to about 1500 billion dollars, the CB profits total.

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The next graph shows the FCB and NCB shares of total CB profits. The graph shows a trend of gradual increase in the financial share, and gradual decrease in the nonfinancial:

Graph #2: Gradual Change in the FCB and NCB shares of CB Profits  (percent of total)
At FRED: https://fred.stlouisfed.org/graph/?g=qvrw

70 years of wiggles and waggles notwithstanding, the NCB share of CB profit has gone from about 90% to around 75%, while the FCB share has gone from 10 percent to 25. For now, though, I want to set Financial Corporate Business profits aside. We will come back to it later. But first we look at the components of NCB profits: the Financial and Nonfinancial components of Nonfinancial Corporate Business profits.

Yes, that's right: Some of the profits of nonfinancial businesses are financial profits. In this post we will estimate the size of this financial component.


The data FRED provides on profit is broken down by business type: For any business that they call "nonfinancial", the profits are identified as profits of nonfinancial business. I prefer to summarize corporate business (CB) profits by profit type. For this, we have to rework the data.

It turns out that some of the assets of Nonfinancial Corporate Business are nonfinancial, and some are financial. What's more, the financial share of NCB assets for a long time gained on the nonfinancial share:

Graph #3: Gradual Change in the F and N shares of NCB Assets
At FRED: https://fred.stlouisfed.org/graph/?g=qvrR

Financial assets start around 20% of total NCB assets, and nonfinancial around 80%. By the end of the millennium, they damn near meet at 50-50. Since then it has been about a 55-45 split. Almost half the assets of nonfinancial corporations are not nonfinancial assets.

Almost half the profits of nonfinancial corporations are not nonfinancial profits? Not to rain on anyone's parade, but "the fundamentals" of our economy are not sound.

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How do you suppose it works out, the rate of return on NCB N assets versus the rate of return on NCB F assets? Well obviously the financial assets have been growing faster than the nonfinancial. This suggests to me that people prefer the F to the N. And that suggests to me that F offers the better return on investment.

But this might not be the case. It may be that N provides the better return. And yet N assets show decline while F assets show growth -- or at least they did for the whole second half of the 20th century. During all that time, F assets were preferred over N. If it is not true that F provided the better return, it must nevertheless be true that F provided greater "utility" than N. People valued F more than N, either because the return was better, or despite the fact that it wasn't.

Not being an economist, I am free to put value on utility: That which provides the greater utility is more highly valued. Ergo, F offers a better return than N.

But for the sake of argument, let's say F and N offer equal returns. Also, for the sake of the arithmetic I have to do. Okay? So if financial assets make up 20% of total NCB assets, then the profit attributable to those assets will be 20% of total NCB profits. If financial assets make up 45% of the assets, then the profit attributable to them is 45% of NCB profits. The arithmetic is simple now.

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On Graph #1 we noted that NCB profits are presently around 1100 billion, FCB around 400 billion, and the total of the two around 1500 billion.

Now we can take the 1100 billion of NCB profit and split it up to match the assets of nonfinancial corporate business: Today, that's near 55% for nonfinancial assets, and 45% for financial assets. This makes the most recent numbers roughly 600 billion in nonfinancial profits and 500 billion in financial profits. The two numbers still add up to 1100 billion, so the graph looks right to me:

Graph #4: Breakdown of NCB Profits by Asset Share
At FRED: https://fred.stlouisfed.org/graph/?g=qw4s

But remember: This is only the profits of nonfinancial corporate businesses. We set aside the 400 billion profits of FCB.

The NCB profit number, which ends around 1100 on Graph #1, is broken up here into an N that ends at 600 billion and an F that ends at 500. The N line shows the nonfinancial profits of nonfinancial corporate business. We'll keep that number.

But the 500 is financial profit of nonfinancial business. It is financial profit. It ought to be counted as financial profit, along with the financial profit of financial business. So we have to take the 500 away from the 1100 of NCB, and add it to the 400 of FCB. We end up with values of around 900 for the financial profits of corporate business, and around 600 for the nonfinancial profits:

Graph #5: NCB Profit less F Asset Share (blue), FCB Profit plus NCB F Asset Share (red)
At FRED: https://fred.stlouisfed.org/graph/?g=qvsD

Financial profits -- red -- run above nonfinancial since the late 1980s, except for a moment during the financial crisis. Nonfinancial profits are not 1100 billion, but only about half that figure. And at 900 billion, financial profits end up about 50% higher than the profits from the production of output.

To get a better feel for the relation between the two measures, consider the F-to-N ratio:

Graph #6: Financial Profit per Dollar of Profit from Production
At FRED: https://fred.stlouisfed.org/graph/?g=qvuH

In 1951 finance was half as profitable as the production of output. Today, it is half again as profitable.


When you tally corporate business profits by type of business, nonfinancial business profits always run higher than financial business profits:

Graph #7: Profits of N and F Corporate Business as Percent of GDP

But when you tally corporate business profits by type of profit, financial profits run above nonfinancial since the late 1980s:

Graph #8: N and F Profits of Corporate Business as Percent of GDP
At FRED: https://fred.stlouisfed.org/graph/?g=qw5j

Swallow hard and acknowledge the reality: Profits are not high; financial profits are.

If you take the profit numbers as FRED presents them, profit is high in recent years and N profit is the better part of it. I have had trouble with that evaluation for many years, because Keynes said

The engine which drives Enterprise is not Thrift but Profit.

If profit drives enterprise, and profits are so good, then why is the economy so bad? The answer, it turns out, is that profits are not so good. Well, I take that back. Financial profits are good, except in the crisis. Financial profits are good, and financial business has been our growth industry. But, like the economy itself, nonfinancial profits, correctly measured, are not so good.

Now the story fits the Keynesian logic. Now it makes sense.

Afterthoughts

The key point in today's post is that FRED's data has profit categorized by type of business, not by type of profit. At FRED, if a Nonfinancial business earns a Financial profit, that profit is counted as part of the Nonfinancial business profit. That's what it is -- based on who earned it. But I don't look at things that way. I look at the N profit of N business, because this is the profit that arises from the production of output. And I total up all the F profit, no matter who earned it, because F profit does not arise from the production of output.

If I'm breaking up NCB profits into N and F, should I do the same for FCB profits? I thought so at first, but now I say no. The bank building is an asset that at first glance might seem to be a nonfinancial asset. But unless they sell pizza there, or hats or something, the profit they make is financial profit. For financial business it doesn't matter what type the assets are; the profits are still financial.

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Data Used

CB and NCB Profits:
https://fred.stlouisfed.org/graph/?id=A446RC1Q027SBEA,A464RC1Q027SBEA,

NCB and NCB-F assets:
https://fred.stlouisfed.org/graph/?id=TABSNNCB,TFAABSNNCB,

Context variable:
https://fred.stlouisfed.org/series/GDP

I show my work in an Excel file: Here's the link.

The Current Numbers: an Overview

1500 billion = Corporate Business Profits

• 1100 billion = Nonfinancial Corporate Business Profits
• 400 billion = Financial Corporate Business Profits

1100 billion = Nonfinancial Corporate Business Profits

• 600 billion = Return on NCB Nonfinancial Assets
• 500 billion = Return on NCB Financial Assets

400 billion = Financial Corporate Business Profits
500 billion = Return on NCB Financial Assets

• 900 billion = Total Financial Profits

600 billion = Return on NCB Nonfinancial Assets
900 billion = Total Financial Profits

• 1500 billion = Corporate Business Profits

The problem is not excessive profits. The problem is excessive finance.