2008_Profits_040208

To illustrate the problem of applying a microeconomic perspective to a macro situation, consider the following. As every entrepreneur knows, employee costs are a major influence on a firm’s profits. Cutting payroll expenses means a more robust bottom line. Accordingly, it is commonly believed that when firms throughout the economy hold down wages,

When most business cycle analysts address the economy’s overall performance, they focus on gross domestic product (GDP) and largely ignore aggregate profits. This is like assessing a firm’s health by looking at its sales but not at its bottom line. In fact, any comprehensive analysis of business cycle dynamics must consider aggregate profits. For t

We will present two ways to derive the sources of total business profits. The first, the identity method (pages 5-7) relies on a few simple applications of addition and subtraction. It is a quick way to identify the sources of profits and derive an equation for aggregate profits. However, this procedure fails to answer questions about the causal re

In seeking the sources of aggregate profits, our interest is in what determines the total volume of profits available for business, and not in factors that affect only how those profits will be divided among firms.

It offers further understanding of virtually every important macroeconomic issue—deficit spending, business cycles, trade imbalances, etc. It exposes misconceptions about the relationship between saving and investment and between wages and profits. It

Imagine all the revenue of the business sector coming in through one pipe and all its expenses running out through another (figure 1). The “profit meter,” which measures the volume flowing through it much like a water meter, records the net effect of these flows on business net worth, represented by the “net worth tank.” All expenses reduce the net

The creation of financial assets may redistribute the economy’s wealth, but it does not represent new wealth; a financial asset for one party is a financial liability for another. But what about wealth gains that occur when one’s house, stock portfolio, or derivatives appreciate? The national income accounts ignore such gains, but they could easily

When personal saving is zero, profits are also zero (profits exactly equal business saving since there are no profits taxes or dividends). In the case where personal saving is $60, business saving is -$60. Total saving must be zero because there is no investment. No new wealth is accumulated in this economy for the simple reason that no new wealth

the household sector spends all of its income during a given period, the business sector will not secure any profits. Since households spend every dollar ofwages earned, total business revenue (consumer expenditures) will exactly equal total business expense (wages paid to households) and aggregate profits will be zero.

We now introduce net investment, or creation of tangible wealth, into the model economy. Investment has two components: net fixed investment (the net increase in the economy’s stock of structures and equipment) and inventory investment.