The other measure of income, GDI, shows faster growth and an oversized profit contribution
There are two measures of income: the spending side (Gross Domestic Product, or GDP) and the income side (Gross Domestic Income, GDI). I’d like to see what GDI is telling us about the Y/Y recovery, since it’s a better predictor of turning points, according to FRB economist Jeremy J. Nalewaik.
The chart illustrates the contribution to Y/Y GDI growth coming from each of the main income components. (Click to enlarge.)The series is deflated using the GDP deflator, since the BEA only releases the nominal numbers. All references to GDP and GDI below refer to the real series.
Observations I note:
1. The Y/Y growth rate of GDI surpassed that of GDP in Q2 2010, continuing into Q3 2010. In Q3 2010, GDI grew at a 3.6% annual clip, while GDP marked a lesser 3.2% rate. Don’t know what this means, exactly; but it could imply that the economy is expanding more rapidly than the GDP measure would suggest.
2. The Q3 2010 corporate profit contribution to annual income growth, 2.2%, is overwhelming that from wages and salary accruals (labor income), 0.73%. This oversized contribution is rather remarkable, given that domestic corporate profits are just 8% of GDI, while that of wages and salaries is 55%. This will probably even out, though, as history shows a more balanced contribution between profits and wages.
3. The chart illustrates the ‘stickiness’ of labor income. The corporate profit contribution turned negative in Q4 2006, while that of wages and accruals turned negative in Q3 2008. That’s a near 2-yr lag from profits to wages. Wages are recovering now; but there will be further quarters of weak wage growth relative to profits, as claims remain elevated above the 350k mark.
4. The contribution to GDI growth from net interest payments is in negative territory. Low rates are dragging this component.
5. Supplements to wages and salaries – government transfer payments like unemployment insurance, for example – contributed 0.3% to annual GDI growth in Q3 2010. Interesting thing about this, is that the average contribution spanning the 2000-2004 period, 0.5%, outweighs that during the 2005-2010 period, 0.14%. I say interesting because the labor decline was far deeper in this cycle compared to the previous cycle. (See Calculated Risk chart from 12.3.2010)
Overall, the GDI report implies that the economy may be improving more quickly than the GDP report suggests. There’s plenty of room for improvement in this picture, however, as the labor wages remain stuck in the mud with corporate profits strong.
Tomorrow we’ll see the Q4 2010 GDP report – consensus forecast is for 3.5% Q/Q SAAR.
Rebecca Wilder
Stupid question:
Since Spending = Income, why are GDP and GDI different?
Thanks. 🙂
Not so stupid question:
Does it really make sense to talk about “the” economy now? Don’t we have a two-tiered (at least!) economy?
I’m having a hard time digging up the right BEA methodology paper, but I recall reading in one of them that the NIPA corporate profit data reflects the worldwide income of domestic industries based on the fallacious theory that corporations, like real human beings, must pay income tax on whatever they earn worldwide. Of course that isn’t true.
If my memory is correct, this means that the corporate profits portion of GDI is, in fact, measuring worldwide economic growth and not strictly domestic economic growth. Perhaps that explains the discrepancy you’re seeing.
The large increase in profits is probably due to an increase of inventories. You might check Dean Baker on this.
Hi Merijn,
Yes inventories were a major contributor to Q3 2010 GDP on the spending side. But on the income side, that would be a cost for firms. Firms build inventories for sales, which on the margin decreases profits rather than increasing them. Hence firms are doing the spending on the inventories, but they’re drawing down cash to do so. Increased operating profitability occurs if the rate of revenue growth exceeds the rate of cost (part of this is on inventory accumulation) growth. It’s not clear that this happened from looking at inventories alone.
Rebecca
How much of the decline then surge in corporate income is attributable to the financial sectors first cratering now surging profits?
Great stuff. I have one complaint/suggestion. Turquise (profits) and blue (wages and salaries) are similar colors. The distinction is one of your key points. The figure would be easier to read of one of them were red.
I’d like to see graphs of just wages and salaries and of wages and salaries plus supplements (both levels and growth).Â
Where are fringe benefits such as health insurance premiums for workers and net contributions to pension funds ?
To understand the profits picture better you should look at the spread between unit labor cost and prices.
Normally it jumps sharply in the early recovery stages and fades quickly as the cycle progresses. This time we got the spike as strong productivity and weak compensation growth yielded falling unit labor cost while price increases were very modest. But productivity growth is not weakening as much as normal so unit labor cost continue to fall and we are seeing an unusually wide spread between prices and unit labor cost continue well into the cycle. This is why we are seeing such strong profits growth and it is clearly a reflection of the job less recovery. When we get the data we almost certainly see a new record low for labor cost as a share of output.
Hi Spencer – agreed, much of the profit growth has come directly from cost cutting rather than headline sales growth. But wage growth is improving – you said this in your latest labor report commentary, I believe – and I suspect wages will continue to garner some momentum based on easy fiscal policy in 2011. You’re an equity guy – what is the trend in earnings for Q4? We won’t see the corporate profit release until the third GDP release, due it being year-end.
BTW, small business survey paints a slightly different picture. In the latest report, sentiment towards earnings potential is downbeat, due to the price-cutting behavior that small businesses have been forced into.
Rebecca
Robert – thank you for the complaint/suggestion – I’ll call it a critique. I’ll update this chart when the corporate profit numbers are released and put the profit series in orange!
“I’d like to see graphs of just wages and salaries and of wages and salaries plus supplements (both levels and growth).”
Perhaps this is an easy project for this weekend!
Finally, fringe benefits are in the ‘supplemental’ portion includes:
(1) employer contributions to pension and insurance
(2)employer contribution to social insurance
Rebecca
Many thanks, Rebecca. 🙂