Corporate gains don't equal strong economy

Profits may not mean healthy business

4/12/2011

WASHINGTON -- U.S. corporations continue to post strong profits quarter after quarter, even as the unemployment rate remains high and the U.S. economic recovery plods along in fits and starts. What gives?

Corporate profits grew 36.8 percent in 2010, the biggest gain since 1950, according to the latest report from the Bureau of Economic Analysis. No sign could be more clear that U.S. companies see the Great Recession in the rearview mirror.

The strong profits, however, mask continued difficult terrain for businesses. Yes, profits are high, but that doesn't mean business is strong.

"It's not that they're fake; it's that they're generated through a bunch of economic anomalies that are not the normal course or normal factors that generate profits," said Martin Regalia, chief economist for the U.S. Chamber of Commerce, America's premier business lobby.

Mr. Regalia and other analysts think several factors are behind strong profits, which contradict other indicators of an underperforming economy, especially 8.9 percent unemployment. Factors include record-low interest rates since late 2008, muted demand for borrowing by firms, and surging productivity that has let firms to do more with the same number of workers or fewer.

That's not to say things aren't improving. The past six months the economy has gathered steam and demand is rising -- from factory orders for parts needed in assembly, to rebounding auto manufacturing, to consumer purchases rising.

That's a healthy growth trend, but the bigger story remains with workforce reductions, technological advances, low lending costs, and minimal borrowing. All have combined to give firms unusual control over their balance sheets, and thus their profits.

"If you are looking at where profits are coming from … cost control, strong capital discipline, strong control over the balance sheet -- that's why you've seen this extraordinary recovery in profits, even though top-line growth hasn't been spectacular," said Aaron Smith, senior economist at Moody's Analytics.

Another factor in today's strong profits also might mask how sluggish the U.S. recovery has been -- the growing percentage of profits from foreign sales by U.S. firms.

That number climbed steadily over the past decade and peaked at 45.3 percent in 2008. That underscores how globalization has made it harder to define winners and losers. Americans are wrestling with high unemployment, but overseas sales have boosted U.S. corporate profits. That, in turn, lifts the stock market, which lifts the wealth of workers with 401(k) retirement plans and company shareholders alike.