The Relationship Between Corporate Profits and U.S. GDP Growth Appears to Have Ended

by: The Mays Report

by G.C. Mays

The Bureau of Economic Analysis reported that second quarter GDP increased at a dismal annualized rate of 1.3 percent. The three-quarters preceding this one were revised with first quarter GDP growth downwardly revised from an already weak 1.9 percent to a morbid 0.4 annual rate.

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Gross Domestic Product second quarter 2011Source: The Mays Report

In spite of the anemic GDP data, about 83 percent of S&P 500 companies have beat second quarter 2011 analyst estimates according to data compiled by Bloomberg and many have reported record revenues and earnings. What we are seeing here is the fortunes of the largest US-based corporations being decoupled from the domestic economy.

Standard and Poors recently reported that in 2010, 46.3 percent of all S&P 500 company sales originated outside of the US. This is due primarily to the growing middle class in emerging and developing markets. Ironically, the growth of the middle class in these markets is due to S&P 500 companies increasingly viewing labor as a global commodity and utilizing lower cost labor from around the world, most notably the emerging markets of Asia and South America. This raises incomes and consumption in the respective foreign countries, thus supporting increased sales.

These structural changes have resulted in stagnant domestic employment while corporate profits have soared above their pre-recession highs.

Corporate Profits as Percentage of Real GDPData Source: Bureau of Economic Analysis; Chart: The Mays Report

If we look at the last 10 years, the divergence between the corporate profits of S&P 500 companies and domestic GDP growth is astonishing. Between the first Quarter of 2001 and 2006, a simple correlation showed that corporate profits explained 98.4 percent of domestic GDP growth. However, the most recent five years beginning with the first quarter of 2006 the correlation between corporate profits and domestic GDP growth breaks down as corporate profits only explain 10.1 percent of domestic GDP growth.

Despite a severe financial crises that nearly brought our banking system to its knees, corporate America has rebounded with new all time highs in revenues and earnings while domestic unemployment remains at levels not seen since the recession of July 1981- November 1982. In the last decade, American citizens have been asked to sacrifice privacy, income, and even lives for the love of this great country. Corporate America has earned record profits but seems to have lost any sense of national purpose. A nation cannot be great without it's citizens gainfully employed. Hire American.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.