Finance is bigger than you think

FRED offers "corporate" data and "corporate business" data. The two categories are not the same. Today we look only at corporate business data.

FRED's corporate business data is divided in two parts: Financial Corporate Business (FCB), and Nonfinancial Corporate Business (NCB). Together, the two make up corporate business.

FRED offers data on the profits and assets of corporate business, such as

• Corporate business: Profits
• Nonfinancial corporate business: Profits
• Nonfinancial corporate business; Total Assets
• Nonfinancial corporate business; Total Financial Assets

Other components like "Financial corporate business profits" and "Nonfinancial corporate business; Total Nonfinancial Assets" can be calculated from the given components.

Oh, by the way: "Nonfinancial" business activity makes and services things. "Financial" business activity makes and services money.

Nonfinancial corporate business profit as a percent of Total corporate business profit:

Graph #1: NCB Share of CB Profit, showing Gradual Decline

During the seven decades shown, the profit of Nonfinancial corporate business declined from above 90% to about 75% of Total (Financial plus Nonfinancial) corporate business profit. We can subtract those numbers from 100% and figure that the profit of Financial corporate business increased from 10% to 25% during that same period.

The split was 90/10 in the early years. It has been 75/25 in recent years. This change is something of a concern, because profit share has fallen for Nonfinancial business, the businesses that make and service the things we buy. 

Yet perhaps it is not much of a concern, as Nonfinancial corporate business profit remains much larger than Financial corporate business profit. It doesn't seem that the relatively small decline in the profit of Nonfinancial business could bear much of the blame for the relatively large economic problems in this new millennium of ours. 

But no.

I have to take another look at Nonfinancial corporate business.

There has been only a small change in the Nonfinancial share of Corporate business profits. Funny thing, though: There has been a large change in the assets of Nonfinancial corporate business:

Graph #2: Financial Share of NCB Assets, showing Massive Increase

The Financial assets of Nonfinancial corporate business rose from about 22% of Total NCB assets in the 1950s, to 45% or more by the late 1990s. The Financial assets of Nonfinancial corporate business doubled as a share of Total NCB assets.

Now, it seems to me that the profit arising from Nonfinancial assets is Nonfinancial profit, and the profit arising from Financial assets is Financial profit. So Graph #2 suggests that since the year 2000, almost half the profit of Nonfinancial corporate business has been Financial profit. But this Financial profit has been counted as part of Nonfinancial corporate business profit.

The discrepancy, or what I see as a discrepancy, arises because profit (as shown in Graph #1) is figured for the nonfinancial business type, while the profit I expect to see is nonfinancial profit arising from nonfinancial economic activity -- from making and servicing things rather than money.

Nonfinancial businesses apparently engage in a lot of Financial activity. I suppose that's the smart thing to do in an economy that exhibits an extremely high reliance on credit, as ours does. But if our excessive reliance on credit creates problems, and if we are troubled by the drift of Nonfinancial business into Financial activity (because it suggests problems in the Nonfinancial sector) then our best options are to reduce our reliance on credit through changes to policy, and to shift our Financial/Nonfinancial profit focus from categorization by business type, to categorization by the type of economic activity that actually generated the profit. Profit from nonfinancial activity is nonfinancial profit, and profit from financial activity is financial profit, no matter what type of business makes the profit. Or so it seems to me.

We might want to take the profit of Nonfinancial corporate business, and figure the part that actually arises from Nonfinancial activity and the part that is attributable to Financial activity. It seems reasonable too, to me, to count the profit arising from the Nonfinancial activity as Nonfinancial profit, but to count the profit arising from the Financial activity of Nonfinancial business (along with the profit of Financial business) as Financial profit. 

Again, we should be categorizing profit by type of profit rather than by type of business. Is that really beyond the pale?

Using the data from Graph #2, we can create a share-of-assets ratio that indicates the percentage of Nonfinancial corporate business profit that arises from Nonfinancial activity.

We can then take the Nonfinancial share of Corporate Business profit from Graph #1, multiply it by our "share of assets" ratio, and find the percentage of total Corporate business profit that arises from the Nonfinancial activity of Nonfinancial corporate business. This is shown on Graph #3:

Graph #3: Nonfinancial Profit of NCB as a percent of Corporate Business profit

The Nonfinancial profit of Nonfinancial corporate business fell from 70% of total corporate business profit in the early 1950s, to 40% now. If Nonfinancial profit is 40% of Corporate business profit, then Financial profit is 60%: more than half of Corporate business profit.

Profit figured by type of business (Graph #1) shows the Nonfinancial share down to 75% of Corporate business profit. Profit figured by type of profit (Graph #3) shows the Nonfinancial share down to 40%. Financial profit is not 25% of Corporate business profit, but 60% -- half again as much as the Nonfinancial share, and more than twice what we thought.

Nonfinancial profit is no longer bigger than Financial profit. It is significantly smaller. And while the decline of "Nonfinancial corporate business profit" may have been relatively small, "Nonfinancial profit" has suffered an uncomfortably large decline -- and "Financial profit" an uncomfortably large increase. 

The increase in Financial profit (which outside of the Financial sector is cost, not profit) together with the decline of Nonfinancial profit could bear much of the responsibility for economic problems in this new millennium of ours. No one should think this is "not much of a concern". The business of producing and servicing things is in worse shape than we have been led to believe. But it is more in line with experience.