Thoughts

September 27, 2024 | 13:53

U.S. Profits: The Epitome of Resilience

Economist

Senior Economist and Director
Economics

Sal Guatieri is a Senior Economist and Director at BMO Capital Markets, with over two decades experience as a ma... (Read more)

Sal Guatieri

Senior Economist and Director
Economics

Sal Guatieri is a Senior Economist and Director at BMO Capital Markets, with over two decades experience as a ma... (Read more)

We learned this week that two underpinnings of U.S. consumer spending—income and savings—were ratcheted higher in the BEA’s annual revisions. But a key pillar of business investment (and equity markets) also drew a swift upgrade. Corporate profits (before taxes) rose 10.8% y/y in Q2, nearly three percentage points faster than previously estimated. That’s roughly twice as strong as the two-decade median (5.3%) as well as nominal GDP growth in the quarter (5.7% y/y). Profits as a percentage of GDP, a rough proxy for margins, have remained consistently high in recent years and even widened to 13.2% in Q2, just two tenths shy of the all-time peak (Chart 1). That’s despite one of the most aggressive courses of monetary tightening in decades.

For domestic nonfinancial industries, profits jumped 12.5% y/y in Q2, extending a lengthy run of double-digit gains, with little sign of ebbing. Leading the earnings parade are three industries: machinery (35.8% y/y), information (30.6%), and retail (13.5%) amid strength in real nonresidential fixed investment (3.3%) and consumer spending (2.7%).

Supporting profit growth are two underlying drivers. The first is an economy that’s still expanding at a healthy 3.0% y/y clip. The second is unit labour costs which are barely rising (0.3%) thanks to a pickup in labour productivity (2.7%) that has almost fully neutralized wage increases from impacting the bottom line.

Corporate earnings should remain healthy in 2025 as interest rates fall, even as some moderation is likely with nominal GDP growth expected to downshift to around 4%. With labour markets loosening, unit labour costs should stay in check even as productivity growth fades somewhat.

Profits are the well-spring of new jobs and investment. So long as earnings growth holds up reasonably well, hiring and spending should remain healthy, keeping the soft landing on track. Meantime, credit spreads could remain tight and the equity rally could have legs.