Corporate profits

Falling corporate profits reinforce recession fears in the United States

  • Profits of companies listed on the S&P 500 are expected to fall nearly 3% this quarter.
  • This represents a significant slowdown from the rapid growth in corporate profits last year.
  • A report published this week by Oxford Economics calls these profit problems a “bad omen” for the economy.

There are growing concerns that the financial results of American companies have peaked. If so, this could be one of the biggest signs that the The US economy is faltering and potentially in recession.

President Donald Trump has minimized such fears, saying on Wednesday that further tax cuts are unnecessary as the economy remains strong. It was a reversal from his earlier statements this week that he was considering cutting taxes on wages and capital gains in order to spur economic growth.

Although second-quarter S&P 500-listed profits exceeded analysts’ expectations, either flat or slightly up, earnings expectations for the July-September period look much bleaker. Analysts expect profits to decline 2.6% over the period. That would be a dramatic change from a year ago, when the S&P 500’s third-quarter earnings were up 27% from a year earlier.

Falling corporate profitability is seen as a strong, but not infallible, indicator of an impending recession. For example, S&P 500 earnings have fallen for three consecutive quarters starting in the fourth quarter of 2015 – no recession has followed, at least not yet.

Yet other measures of corporate earnings also point to choppy waters ahead. Using so-called National Income and Product Accounts (or NIPA, which the US Department of Commerce uses to calculate the country’s gross national product) data, Oxford Economics found that the profits of companies in the last quarter of 2018 and the first three months of this past year – the first consecutive quarterly decline in two years. Corporate profit margins are also shrinking, the research firm found, which can also portend a recession.

Trump plans to cut payroll taxes


Meanwhile, a closely watched indicator of business conditions released on Thursday – the IHS Markit Purchasing Managers Index – suggests companies are limiting spending amid slowing growth and concerns about the global economic outlook.

“Business expectations for the coming year turned darker in August and remain the lowest since comparable data first became available in 2012,” said Tim Moore, associate director of economics at IHS Markit, in a research note. “The continued decline in business growth projections suggests that businesses may be more cautious about spending, investing and hiring staff in the coming months.”

Much of the US economy is driven by consumer spending, and that remains strong. But falling corporate profits can hurt business spending, investment, and hiring, which would reduce consumer spending. On top of that, about 40% of S&P 500 company profits come from overseas, which is also showing signs of weakening.

Is the “Trump bump” fake news?

Oxford comes to another conclusion that could bode well for the economy: The company’s NIPA analysis found that the so-called Trump bump – the mix of tax cuts and deregulation that the White House has touted as boosting the economy in 2017 and 2018 – is largely an illusion.

In fact, according to recent revisions to NIPA data, corporate profits peaked at the end of 2014, not the end of 2018, as previously thought. Since 2014, corporate profits have been mostly stable. Even the major corporate tax cuts haven’t given a boost, the research firm says.

Whether there was a Trump bump may seem questionable at this point. But Oxford senior economist Lydia Boussour, the author of the report, said it could matter a lot when it comes to recession forecasts. Here’s why: Recessions have generally followed declines in NIPA data, but with a lag, sometimes up to four years.

In other words, if corporate profits were to decline in 2018, profits could continue and there is no need to worry. But if the peak in real profits was in 2014, then a recession is long overdue.

The government will release its latest earnings data for NIPA companies next week. If the number is still on the decline, recession-deniers like Mr. Trump will find it increasingly difficult to hold on.

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