Are Profits Too High?

October 27, 1947

Corporate profits in terms of dollars are now running at the highest levels on record. In 1946 they amounted after taxes to $12,539,000,000. In the first six months of this year, according to estimates of the United States Department of Commerce, corporate profits after taxes were running at an annual rate of $17,000,000,000, an increase over the 1946 rate of about 35 percent.

Such figures are often cited today as a sort of economic scandal. They are taken as prima facie evidence that current profits are outrageous, that they bear an unhealthy relation to wages, and that prices could be substantially reduced without harm. The dimensions of these profits begin to evaporate, however, when we examine them more closely and in their broader context.

1—While corporate profits in recent years have been running at record levels, so have wages and the national income. Dollars themselves, in fact, are so plentiful that they have become cheap. As compared with its 1935–39 wholesale purchasing power, the dollar today is worth only 54 cents.

2—Corporate profits are greatly overstated today even in terms of depreciated dollars because proper deductions are not being made. The market price of a firm’s inventories may have doubled. The dollar increase in inventory value is set down as a profit. But when the firm comes to replace its inventories, as it must, it needs twice as much money to replace the same physical supply as it had before. If it restored only its original dollar investment in inventories, it could do only half its former volume of business. The Department of Commerce in its revised national income statistics published in July takes account of this factor, and deducts from the $12,500,000,000 figure of 1946 corporate profits $4,700,000,000 as an “inventory valuation adjustment.”

The National Industrial Conference Board has pointed out that when these inventory profits are deducted, the net earnings of corporations after taxes in 1946 constituted only 4.6 percent of the national income (less corporate income and excess-profits taxes)—a smaller percentage than in any year since 1935. Even during the first half of 1947 corporate profits, when similarly reduced and treated as a percentage of the national income, were appreciably below 1940 and 1937.

3—Practically all deductions for depreciation are inadequate today. A worn-out or obsolete machine that cost $10,000 ten years ago may cost to replace not $10,000 but $15,000 or $20,000. The tax laws, however, permit only depreciation charges based on original cost, not on higher replacement cost. As a consequence, the Machinery and Allied Products Institute concludes that industry is understating the costs arising from the consumption of its fixed assets, overstating its profits, and in some cases perhaps underpricing its products. In short, there is going on an erosion of real capital not offset by depreciation charges. Economists have estimated that a true corporate depreciation allowance in 1946 may have run from $1,500,000,000 to $5,000,000,000 higher than the allowance actually made.

4—Present corporate profits are the result of unprecedented volume of business rather than of wide profit margins. The combined net income of 24 leading companies in wholesale and retail trade, for example, averaged 2.6 cents per dollar of sales in the first half of 1947, against 3.3 cents in the second half of 1946 and 3.9 cents in the first half. So-called corporate “breakeven points” are today much higher than before the war, and wage costs are far more resistant to downward adjustment. A comparatively small reduction in output or volume of sales, therefore, could mean for many companies today a very sharp reduction or even a disappearance of profits.

5—Corporate profits can be added together for special statistical purposes, but it is misleading ever to discuss them as if they formed a common pool. A high total of corporate profits is no help to an individual company with a deficit. Even major group divisions emphasize this fact. The country’s railways, for example, on present methods of accounting, earned an average of only 2.75 percent on their property investment in 1946.